EU Emissions Trading

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EU Emissions Trading

This page intentionally left blank Initiation, Decision-making and Implementation JON BIRGER SKJÆRSETH AND JØRGEN

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EU EMISSIONS TRADING

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EU Emissions Trading Initiation, Decision-making and Implementation

JON BIRGER SKJÆRSETH AND JØRGEN WETTESTAD Fridtjof Nansen Institute, Norway

© Jon Birger Skjærseth and Jørgen Wettestad 2008 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without the prior permission of the publisher. Jon Birger Skjærseth and Jørgen Wettestad have asserted their right under the Copyright, Designs and Patents Act, 1988, to be identified as the authors of this work. Published by Ashgate Publishing Limited Gower House Croft Road Aldershot Hampshire GU11 3HR England

Ashgate Publishing Company Suite 420 101 Cherry Street Burlington, VT 05401-4405 USA

Ashgate website: http://www.ashgate.com British Library Cataloguing in Publication Data Skjærseth, Jon Birger EU emissions trading : initiation, decision-making and implementation 1. Emissions trading - European Union countries 2. Greenhouse gas mitigation - Economic aspects - European Union countries 3. Greenhouse effect, Atmospheric Economic aspects - European Union countries I. Title II. Wettestad, Jørgen, 1955 363.7'38746'094 Library of Congress Cataloging-in-Publication Data Skjærseth, Jon Birger. EU emissions trading : initiation, decision-making and implementation / by Jon Birger Skjærseth and Jørgen Wettestad. p. cm. Includes bibliographical references and index. ISBN 978-0-7546-4871-0 1. Emissions trading--European Union countries. 2. Greenhouse gas mitigation-Economic aspects--European Union countries. 3. Greenhouse effect, Atmospheric-Economic aspects--European Union countries. 4. Energy policy--Environmental aspects-European Union countries. I. Wettestad, Jørgen, 1955- II. Title. III. Title: European Union emissions trading. HC240.9.P55S45 2007 363.738’746094--dc22 2007027846 ISBN: 978-0-7546-4871-0

Printed and bound in Great Britain by MPG Books Ltd, Bodmin, Cornwall.

Contents List of Tables Preface List of Abbreviations

vii ix xi

1

Introduction

2

Analytical Framework

11

3

Development of the EU ETS

35

4

Initiating EU Emissions Trading

65

5

Deciding on EU Emissions Trading

103

6

Implementing EU Emissions Trading

159

7

Conclusions

181

References Annex I Index

1

197 207 209

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List of Tables 1.1

Member-state goals under the 1998 burden-sharing agreement

2.1

Summary of propositions

3.1

Main changes in the European Commission’s proposals for ET and Linking Directives Distribution of allowances under the ETS 2005–07 NAP I 2005 allocations and verified emissions NAP II, outcome of first Commission assessment end November 2006 (all figures in million tonnes of CO2) NAP II CDM/JI limits, outcome of first Commission assessment end November 2006 NAP II, outcome of second batch of Commission assessments, end April 2007 (all figures in million tonnes of CO2) NAP II CDM/JI limits, outcome of second batch of Commission assessments, end April 2007

61

4.1 4.2

Main non-state actor positions on the emerging EU ETS Member-states’ positions on the emerging EU ETS

84 96

5.1 5.2 5.3 5.4

The Commission’s proposal and the final Linking Directive Key changes suggested in the Parliament’s first reading Key changes suggested in the Parliament’s second reading ET proposal, Parliament proposals and final outcome

115 129 135 137

6.1

Implementation of the EU ETS: Expected vs. actual outcome (in relative terms)

170

3.2 3.3 3.4 3.5 3.6 3.7

6 33

48 56 57 60 60 61

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Preface Of the growing body of literature on the EU Emissions Trading Scheme (ETS), some of the most valuable contributions thus far have been written by the European Commission architects themselves (Lefevere 2005; Delbeke ed. 2006). These authors have unmatched knowledge of what happened behind the scenes as well as impressive technical, economic and legal insights. We highly recommend these contributions to anyone wishing a detailed description of the EU ETS. The contribution of this particular book lies first and foremost in a systematic analysis of why, how and with what consequences the EU Emissions Trading Scheme came into being. Our investigation is undertaken from a political science perspective, making this book a political analysis of an economic policy instrument. As political scientists, we seek to place the initiation, decision-making and implementation of the EU ETS within a broader analytical framework for understanding EU policymaking. To this end we systematically apply social science theory to understand the development of the EU ETS, using the development of the scheme to refine social science theory. A further aim is to apply various explanatory perspectives pointing to different decision-making levels, actors and institutions in answering the research questions. We will view the process from the perspective of the EU memberstates, but also from the perspective of EU institutions, of European industry and environmental organizations, and from that of the international climate negotiations and the climate regime, particularly the Kyoto Protocol. We have tried to restrict technical details to a ‘need to know’ basis. On the one hand, the EU Emissions Trading Scheme is an intuitively simple policy instrument for distributing or allocating carbon emission allowances or permits (in tons of carbon dioxide, CO2) to industry. The main difference from traditional permit systems is that industry can buy or sell these allowances, as deemed necessary. If the system is to make any sense as a climate-policy instrument for reducing emissions, less allowances should be given out than are projected to be needed. On the other hand, the EU ETS is extremely complex: the Monitoring and Reporting guidelines and the Registers Regulation alone fill some 200 pages of legal text. We can comfort any readers struggling to understand the details of the EU Emissions Trading Scheme: they are not alone. Many scholars have provided us with valuable support and suggestions for improvement. Sebastian Oberthür has gone through the whole manuscript and offered extremely valuable comments, drawing upon his theoretical and empirical expertise. In addition to providing invaluable information in two interviews, Peter Vis commented upon draft versions of Chapters 4, 5 and 6. Ingvild Andreassen Sæverud provided essential inputs to earlier work on the ETS implementation process, including collaboration in carrying out several interviews. Elin Lerum

x

EU Emissions Trading

Boasson kindly assisted us in finding relevant empirical evidence for several chapters, and Karoline Hægstad Flåm wrote very helpful initial drafts for the parts on the linking directive process in Chapters 3 and 5. Steinar Andresen, Arild Moe, Olav Schram Stokke and Oran R. Young have provided comments to Chapter 2. Stig Schjølseth provided useful inputs and comments to Chapters 3 and 6. Maryanne Rygg has provided excellent editorial assistance and Susan Høivik has improved the English text considerably. We are also grateful to Oran R. Young for inviting Jon Birger Skjærseth as a guest researcher to the Bren School of Environmental Science & Management at the University of California, Santa Barbara (UCSB) in 2006/07. This book would not have materialized without the excellent working conditions provided at the UCSB. Jon Birger Skjærseth Santa Barbara, California

Jørgen Wettestad Lysaker, Norway

List of Abbreviations

ACBE ACCF AGBM AGE ALTENER API BAU BDI (Germany) BEST BMU BMWA BP BSA CCAP CCPMs CDM CDU CEECs CEFIC CEMBUREAU CEO CEPS CERs CH4 CNE CO2 CoP Coreper CSU DETR

(UK government) Advisory Committee on Business and the Environment American Council for Capital Formation Ad Hoc Group on the Berlin Mandate German Emissions Trading Group (AG Emissionhandel) EU programme focussing on promotion of renewable energy sources American Petroleum Institute Business as Usual Federation of German Industries (Bundesverband Deutscher Industrie) ‘Bureaucrats for Emissions Trading’ German Ministry of the Environment German Ministry of Economics and Labour British Petroleum Burden-Sharing Agreement Center for Clean Air Policy Common and Coordinated Policies and Measures Clean Development Mechanism Christian Democratic Union Central and Eastern European Countries European Chemical Industry Council Representative organisation of the cement industry in Europe Chief Executive Officer Centre for European Policy Studies Certified Emissions Reductions Methane Climate Action Network Europe Carbon dioxide Conference of the Parties Committee of Permanent Representatives Christian Social Union UK Department of the Environment, Transport and the Regions

xii

DG DG ECFIN DG ENV DG TREN ECCP ECJ EEA EEB EITs ENGO EP EPA EPP ERT ET ETG EU ETS EURELECTRIC EUROPIA FIELD FoE GETS GHGs HEW HFCs ICCF IPCC IPPC JI JUSCANNZ LCP MEPs N2O NAO NAPs NOX OECD PCA PFCs PSE

EU Emissions Trading

Directorate General DG Economic and Financial Affairs DG Environment DG Transport and Energy European Climate Change Programme European Court of Justice European Environmental Agency; or European Economic Area European Environmental Bureau Economies in Transition Environmental Non-Governmental Organization European Parliament US Environmental Protection Agency European People’s Party, Christian Democrats European Round Table of Industrialists Emissions Trading Emissions Trading Group EU Emissions Trading Scheme Union of the Electricity Industry European Petroleum Industry Association Foundation for International Law and Development Friends of the Earth Greenhouse Gas and Energy Trading Simulations Greenhouse Gases Hamburg Electricity Utility Hydro fluoro-carbons International Council for Capital Formation Intergovernmental Panel on Climate Change Integrated Pollution Prevention and Control Joint Implementation Japan, USA, Canada, Australia, New Zealand, Norway and Iceland Large Combustion Plant Members of Parliament Nitrous oxide UK National Audit Office National Allocation Plans Nitrogen oxide Organisation for Economic Co-operation and Development Norwegian Pollution Control Authority Perfluorocarbons Socialist group in the European Parliament

List of Abbreviations

REACH RECLAIM RGGI SAVE Programme SF6 SO2 SPD TAR UNCED UNCTAD UNEP UNFCCC UNICE VA VCI WMO WWF

xiii

Registration, Evaluation, Authorisation and Restriction of Chemicals Regional Clean Air Incentives Market Regional Greenhouse Gas Initiative EU programme to promote energy efficiency and encourage energy-saving behaviour Sulphur hexafluoride Sulphur dioxide Social Democratic Party Third Assessment Report United Nations Conference on Environment and Development United Nations Conference on Trade and Development United Nations Environmental Programme United Nations Framework Convention on Climate Change Union of Industrial and Employers’ Confederations of Europe Voluntary Agreement Chemical Industry Associations World Meteorological Organization World Wide Fund for Nature

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Chapter 1

Introduction The EU was a leading sceptic to international emissions trading in greenhouse gases (GHGs) in the run-up to the 1997 Kyoto Protocol. Four years later, the European Commission proposed the world’s first international emissions trading system. The directive on emissions trading was formally adopted by the member-states in the Council of Ministers and by the European Parliament in October 2003. This directive introduced the EU Emissions Trading Scheme (EU ETS) for large industrial emitters of CO2 from 2005. The first round of implementation in the form of drawing up national allocation plans for the distribution/allocation of CO2 emission permits was mainly carried out in 2004. By 1 January 2005, the system was up and running. With the ETS, the EU had not only accepted the idea of emissions trading. From being a laggard, it had become a leader in emissions trading within a very short period of time. The EU Emissions Trading Scheme has been acknowledged as one of the most far-reaching and radical environmental policies in many years. The aim of this book is to understand the EU’s turn-about and its consequences. Why did the EU change its position? How did it manage to establish the world’s first international emissions trading system so rapidly? What are the consequences so far? In essence, how can we explain the rapid initiation, decision-making and implementation of the ETS in light of the EU’s scepticism to including emissions trading in the Kyoto Protocol?1 The making and implementation of the EU ETS is politically and environmentally important for several reasons. First, it constitutes the major climate policy instrument of the EU, so the success or failure of the scheme will affect the extent to which the EU will be able to reduce its CO2 emissions and comply with its commitments under the Kyoto Protocol. Second, the EU Emissions Trading Scheme is the first international emissions trading scheme ever. As such, it represents an innovative political solution to one of the most pressing ecological challenges facing the earth today. Third, and for the same reason, the EU ETS represents a ‘grand policy experiment’ with ramifications extending far beyond the EU (see Kruger and Pizer 2004). How the Emissions Trading Scheme performs will have consequences for how the international climate negotiations can be brought forward beyond the initial commitment period (2008–12) of the Kyoto Protocol. The development of the EU ETS is also theoretically interesting and challenging from a social science perspective. Different schools of thought offer different answers to the research questions above. One approach see EU policy-making and integration 1 In stark contrast, the process of getting a highly structured EU carbon/energy tax failed; moreover, it took twelve years to get a weaker version adopted, if we count the carbon tax initiative in the early 1990s as the true starting point of this process.

2

EU Emissions Trading

as mainly a result of interstate bargaining. According to this intergovernmentalist approach, the interests and preferences of the EU member-states are the key to understanding the EU ETS. The development of the EU ETS is compatible with an intergovernmentalist approach to the extent the member-states changed their positions, took the initiative and determined the design of the scheme. Another approach explains the EU ETS by pointing to the complexity of the actors and institutions involved at different levels of decision-making. The rapid development of the emissions trading scheme is more in line with multi-level governance to the extent it was the EU institutions, industry and environmental non-governmental organizations (ENGOs) that changed their positions and strategies, took the initiative and determined the design of the scheme. Intergovermentalist and multi-level governance perspectives emphasize EUinternal actors and institutions as key determinants for EU policy-making. But perhaps the main causes of the rapid development of the EU ETS lie outside the EU itself, in the interaction with the international climate regime. In line with this international regime approach, we would seek the explanation in the United Nations Framework Convention on Climate Change (UNFCCC) and the Kyoto Protocol’s commitments and provision for international emissions trading. The idea of emissions trading has been – and to some extent still is – controversial and is by no means widely accepted (Lefevere 2005, 92). In the context of climate change, the concept has been challenged for being morally wrong and questionable with regard to equity (Ott and Sachs 2000). The essence of the moral/ethical argument is that emissions trading authorizes pollution, turning it into commodities that can be bought and sold. Equity concerns have been raised particularly with regard to developing countries and international emissions trading. The main argument here is that the richer industrialized countries can simply buy their way out of their obligations and thus maintain their disproportionate consumption of scarce resources. But even if emissions trading is accepted as an idea, transforming this idea into an instrument capable of reducing emissions of GHGs is by no means easy. Emissions trading cannot in itself reduce emissions or pollution: its effect depends upon how it is designed. The logic behind a smoothly functioning emissions trading system is to encourage companies to decrease emissions by creating a dynamic monetary incentive so they can sell their allowances or credits to other larger polluters, and profit. Such incentives will not evolve if allowances are in excess of ‘real’ needs, or if monitoring and enforcement are inadequate. Conversely, a well-designed system based on strict caps and adequate monitoring, enforcement and compliance will, at least in theory, offer certainty of emissions reductions corresponding to the stringency of the cap. Unlike domestic trading schemes controlled by governments with authority to track and punish non-compliance, effective international systems are far more difficult to establish. Finally, even a well-designed system will not work if it is not implemented correctly by the participants in the system – which, in this context, means the EU member-states and by industry, its installations and operators. These three challenges – acceptance of the idea, adoption and design of the system, and practical application – can roughly be related to three phases in the development of the EU Emissions Trading Scheme: policy initiation, decision-

Introduction

3

making and implementation. One central assumption is that the three explanatory approaches referred to above will have different explanatory power in these three policy phases. Another underlying assumption is that what happens in the initiation and decision-making phases will have important consequences for how the system is implemented and how well it will work in practice. The devil is not necessarily only in the details – it may very well also be in the major design decisions made along the way. Below, we place the Emissions Trading Scheme within the perspective of EU climate policy. This brief history will show that the intergovernmental, multi-level governance and the international regime approaches all have their merits. The history of EU climate policy in general and emissions trading in particular cannot be fully understood without reference to non-state actors, member-states, EU institutions and the international climate regime. A Brief History of EU Climate Policy2 References to climate policy began to crop up in European Community documents from the mid-1980s. It was briefly mentioned by the European Commission in 1985, and the Parliament adopted the first official EU document on the subject in the form of a Resolution in 1986 (Official Journal 1986). The Commission followed up with a 1988 Communication on ‘The Greenhouse Effect and the Community’,3 recommending further scientific studies and review of policy options. However, the Fourth Environmental Action Programme (1987–92) did not identify climate change as a priority issue. In 1988 the United Nations Environment Programme (UNEP) and the World Meteorological Organization (WMO) established the Intergovernmental Panel on Climate Change (IPCC), and international policy discussions intensified. During the spring of 1990, the Commission discussed the use of economic and fiscal instruments in environmental policy, including a specific energy/carbon tax. In June 1990, the European Council called for the early adoption of targets and strategies for limiting emissions of greenhouse gases. At a joint meeting of the Energy and Environment Councils in October 1990 (prior to the Second World Climate Conference), political agreement was reached on stabilizing EU CO2 emissions by 2000 at 1990 levels, on the assumption that other leading countries would take on commitments along similar lines (Skjærseth 1994). This agreement aimed at putting the EU in a leading position, especially in relation to the USA, and at influencing the negotiations on a UN Framework Convention on Climate Change. The Commission immediately continued to flesh out a more specific climate policy package based on the following central elements: 2 As this book is about the European Union and emissions trading, this historical overview is written with that particular dimension in mind. 3 European Commission (16 November 1988), COM(88)656, Communication to the Council: ‘The Greenhouse Effect and the Community’, Commission work programme concerning the evaluation of policy options to deal with the ‘greenhouse effect’, and draft Council Resolution on the greenhouse effect and the Community (Brussels).

EU Emissions Trading

4

• • •

fiscal measures, particularly an energy/carbon tax; measures targeting the transport sector, including a maximum speed limit for private cars; measures to improve energy efficiency and the use of renewables, including a revitalization of the existing SAVE energy efficiency programme and a new ALTENER programme on renewables.

In light of subsequent policy developments, it is interesting to note that a spring 1991 version of this developing policy package also included a burden-sharing element, whereby certain countries with higher development needs – in practice, Greece, Ireland, Portugal and Spain – were to be given greater flexibility than the others (Ringius 1999, 139). An autumn 1991 Communication from the Commission clearly expressed the ambition to act as a global leader at the upcoming June 1992 United Nations Conference on Environment and Development (UNCED).4 Just before UNCED, a Commission Communication5 outlined four main measures for the Council to adopt: a framework directive on energy efficiency (within the existing SAVE Programme); a decision concerning promotion of renewable energies (the ALTENER Programme); a directive on a combined carbon and energy tax, on the condition that such a tax was also adopted by ‘main competitors’ within the OECD; and a decision concerning a monitoring mechanism for CO2 and other greenhouse gas emissions. However, the Council was not able to adopt any of these proposals prior to UNCED, whereupon Environment Commissioner Ripa de Meana resigned in protest. The tax proposal led to some of the most ferocious lobby activity ever seen in Brussels. The fossil-fuel industry was able to water down the Commission proposal in a way that also contributed to erode consensus among the member-states (Skjærseth 1994; Newell and Paterson 1998). The UNFCCC was adopted at UNCED. It contained as a main element a loose commitment for industrialized countries, ‘individually or jointly’, to return to earlier levels of anthropogenic emissions of CO2 and other greenhouse gases by the year 2000. After UNCED the Commission gave priority to getting the climate policy package adopted. Not surprisingly, putting the monitoring mechanism in place proved least problematic, and this was adopted in June 1993. The budgets for both SAVE and ALTENER were considerably reduced, and watered-down versions of both programmes were adopted in September 1993. However, getting the energy/carbon tax adopted proved even more problematic. Due to unanimity requirement in EU’s fiscal environmental policies, this was bound to be a controversial element of the package. From the very start, there had been considerable scepticism and resistance. For instance, the ‘cohesion countries’ (Greece, Ireland, Portugal and Spain) would accept a tax only in return for additional structural funding; France argued for a 4 European Commission (14 October 1991), SEC(91)1744 final, Communication from the Commission to the Council: A Community Strategy to Limit Carbon Dioxide Emissions and to Improve Energy Efficiency. 5 European Commission (1 June 1992), COM(92)246, Communication from the Commission: A Community Strategy to Limit Carbon Dioxide Emissions and to Improve Energy Efficiency (Brussels).

Introduction

5

pure carbon tax in order to protect its nuclear industry; and the UK was opposed to any such tax at the EU level. As unanimity seemed increasingly unattainable and there was no sign of main OECD competitors establishing similar taxes, the idea of a common energy/carbon tax was downplayed towards the end of 1994.6 This – as well as the slashing of the SAVE and ALTENER budgets – should probably be seen in light of the more general shift in EU integration trends in the early 1990s towards ‘subsidiarity’ and ‘the limiting of EU powers’ (Collier 1997). In the preparatory process to the first UNFCCC Conference of the Parties (CoP) to be held in Berlin in 1995, the EU agreed to aim for the launch of negotiations on a new protocol with strengthened commitments, to be concluded by the time of the third CoP, in 1997. This was also very much the outcome of the first CoP (the ‘Berlin Mandate’). The Ad Hoc Group on the Berlin Mandate (AGBM) was established as a forum for discussions and negotiations towards the new protocol. Already by the end of 1995, the EU position was to combine a target for the Union as a whole with an internal burden-sharing agreement. However, reaching agreement on a position for both a common target and an internal sharing proved difficult, and several EU countries, including Germany, tabled their own protocol proposals within the AGBM. In order to meet the March 1997 final deadline for tabling protocol proposals (including the development of a specific burden-sharing formula), under the leadership of the Dutch Presidency, an agreement on a 15 per cent joint target and a specific burden-sharing formula for differentiated targets for individual member-states amounting to an overall reduction of 9.2 per cent by 2010 was hammered out in early March (Ringius 1999). This enabled the EU to stand out as the most ambitious by far of the major actors. In Kyoto in December 1997, the EU spent much time on internal coordination and trying to stand up against US ideas on a protocol based on flexible mechanisms such as international emissions trading. The EU succeeded in getting a protocol adopted with strengthened commitments and with the USA on board, but the more specific design of the protocol has a distinct US flavour. Three flexible mechanisms became central ingredients of the Kyoto Protocol: emissions trading, Joint Implementation (JI), a Clean Development Mechanism (CDM). The EU’s own target became an 8 per cent reduction of greenhouse gases (GHGs) by 2008–12 from 1990 levels. Furthermore, similar to other parties to the Protocol, the EU should make demonstrable progress in achieving its commitment by 2005. After Kyoto, both the Community and the individual member-states had quantitative targets. However, the Kyoto outcome deviated from the EU’s assumptions underlying the 1997 Burden-sharing Agreement, as the target was less ambitious. The number of gases had been expanded, and there was a commitment period from 2008 to 2012 rather than a single target year of 2010.7 The 1997 agreement was 6 Instead, the European Council instructed the ECOFIN Council to consider common parameters to enable member-states to apply a CO2 tax (Wettestad 2000). 7 The EU reduction target was reduced from 15% by 2010 to 8% over the period 2008– 12, and the number of greenhouse gases was increased from three to six. The Kyoto Protocol encompasses six gases: Carbon dioxide (CO2); Methane (CH4); Nitrous oxide (N2O); Hydro fluoro-carbons (HFCs); Perfluorocarbons (PFCs); and Sulphur hexafluoride (SF6). It was

EU Emissions Trading

6

hence revised and transformed into a Burden-sharing Agreement in June 1998, with the 8 per cent reduction commitment divided among the EU member-states as shown in Table 1.1. Table 1.1

Member-state goals under the 1998 Burden-sharing Agreement

Austria Belgium

–13.0% –7.5%

Denmark

–21.0%

Finland

0.0%

France

0.0%

Germany

–21.0%

Greece

+25.0%

Ireland

+13.0%

Italy Luxemburg The Netherlands

–6.5% –28.0% –6.0%

Portugal

+27.0%

Spain

+15.0%

Sweden United Kingdom

+4.0% –12.5%

The Burden-sharing Agreement became legally binding in 2002. Later it came to serve, together with the Kyoto commitments, as the foundation for allocating emissions allowances under the EU ETS. At least from the perspective of the Commission, there was a clear need for new policy instruments at the community level to meet the Kyoto commitments. Although the EU was well under way to achieving stabilization by the 2000 target, it was clear that this was very much due to the ‘dash-to-gas’ in the UK, and reunification effects in Germany.8 Efforts to dress up the carbon/energy tax as an energy tax in 1997 did not help, as key European industries and member-states like Spain and the UK continued to mount vociferous opposition. Other elements of the initial climate policy package, such as SAVE and ALTENER, remained weak and inadequate (Wettestad 2001). mainly the US that argued for including the three latter gases. The EU was sceptical, but finally chose to give in (see Grubb et al. 1999, 75–6). 8 The ‘dash-to-gas’ from coal in the UK was not primarily motivated by environmental policy concerns; it, so to speak, brought down emissions without specific environmental abatement costs. In a somewhat similar manner, the German re-unification and related closure and restructuring of industry in the East brought down emissions without specific environmental abatement policy costs, as a one-off process. See also Chapters 4, 5 and 6.

Introduction

7

As a first and symbolically important development, a shift in the position on emissions trading was announced in the 1998 and 1999 Communications on EU Kyoto strategy and implementation.9 The discussion on possible options as to the design of such a system moved a considerable step further with the March 2000 Green Paper on an EU emissions trading system.10 In the same month, the second part of the Commission’s new policy development was launched: the European Climate Change Programme (ECCP). This programme was initially divided into six working groups, of which four focused on policies and measures in the energy consumption, energy supply, transport and industry sectors. One group focused upon research and one on flexible mechanisms including emissions trading (WG I). The ten WG I meetings held between July 2000 and May 2001 served as a stakeholder exercise, including industry and ENGOs, in terms of elaborating the platform for an EU ETS. Meanwhile, in March 2001, President Bush pulled the USA out of the still unratified Kyoto Protocol. The EU now became the pivotal actor for achieving ratification of the Protocol, with US exit opening a window of opportunity for the EU to exert global climate policy leadership. As we shall see, the EU Emissions Trading Scheme was to become an important expression of leadership, evolving from an instrument for implementing the Kyoto Protocol to an instrument for saving the Protocol. The report of the ECCP, published in July 2001, contained a number of proposals for further policies and measures. The Commission’s ET directive proposal was put forward in October 2001 (Christiansen and Wettestad 2003). This proposal outlined a system that initially targeted mainly the power sector and included only CO2 emissions. Although broader climate policy development continued along the lines drawn up by the ECCP, the further and quick development of an ETS became the flagship of EU climate policy. The ET Directive was formally adopted by the Council in October 2003, as Directive 2003/87/EC (Wettestad 2004; 2005). As this Directive dealt with the internal EU system, a subsequent decision-making process produced a directive specifying the links between the EU ETS and the flexibility mechanisms under the Kyoto Protocol. Political agreement on the Linking Directive was reached in April 2004. As a main element, the Directive allows CDM credits to be used already from 2005 on, and JI credits from 2008. The Directive was formally adopted in October 2004, as Directive 2004/101/EC. Meanwhile, national implementation of the emissions trading directive was well underway. A central task here was the drawing up National Allocation Plans (NAPs), setting both total ceilings (caps) for the emissions in the pilot phase 2005– 07 and distributing this total among the industrial installations covered. Although the process of completing the NAPs and establishing national allowance registries

9 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels); European Commission (19 May 1999), COM(99)230, Commission Communication to the Council and the Parliament. Preparing for Implementation of the Kyoto Protocol (Brussels). 10 European Commission (8 March 2000), COM(2000)87 final, Green Paper on Greenhouse Gas Emissions Trading within the European Union (Brussels).

8

EU Emissions Trading

was delayed, the system was launched according to plan early in 2005 (Wettestad and Sæverud 2005). Research Strategy The focus for explanation in this study is the rapid development of the EU Emission Trading Scheme in light of previous EU opposition to emissions trading. We distinguish between three main phases. First, the initiation of the ETS, in which the development of emissions trading as an idea constitutes our central concern. Second, the formal decision-making between the EU institutions and member-states on the design, degree of harmonization and adoption of the system. And third, the implementation phase, in which member-states allocated their emission allowances according to specific criteria, thereby determining the ambitiousness of the system. As noted, we explore three different explanatory approaches that will provide differing answers as to what happened and why. This research strategy resembles Graham T. Allison’s classic study The Essence of Decision: Explaining the Cuban Missile Crisis, with three different ‘lenses’ through which analysts can examine events (Allison 1971).11 First, the development of the EU ETS may be seen through the lenses of nation-states and explained by changes in the interests and preferences of the EU member-states. The member-states may have requested the system, determined the design and allocated the emission allowances accordingly. According to this intergovernmentalist approach, which has been elaborated in various ways, national governments are the ultimate decision-makers within the EU system (on this, see for example Moravcsik 1998). Consequently, the EU institutions have limited independent authority, and primarily serve the goals of national governments. The state is assumed to be rational, but not necessarily unitary. Non-state actor interests like industry and ENGOs affect policymaking, but solely through the domestic channel of interest aggregation. Second, the development of the EU ETS can be seen through the lenses of the EU institutions and explained by the positions taken and the roles played by the European Commission, the European Parliament and the European Court of Justice. Also aspects of the functioning of the Council are relevant here, such as decision-making procedures. This EU institutional explanation is based on a multilevel governance perspective on EU policy-making (see Hooghe and Marks 2001; Fairbrass and Jordan 2001). This perspective has also been elaborated by several scholars in various forms, but all share the assumption that supra-national institutions have an independent effect on policy-making beyond their role as representatives of national governments. In addition, this perspective points to the importance of nonstate actors that can influence EU policy directly at EU level. Third, the development of the Emissions Trading Scheme can be seen through the lenses of the international climate regime. Whereas the intergovernmental and multi-level governance approaches focus on EU-internal explanatory factors, the international institutional context has been identified as one important force towards

11 In Allison’s study these were the Rational Actor, Organizational Behaviour and Governmental Politics models.

Introduction

9

convergence in EU environmental policy (see Weale et al. 2000). In most areas of transnational environmental problems, there is an international environmental regime interacting with EU environmental policy. In the field of climate policy, the most important international context for the EU remain the United Nations Framework Convention on Climate Change and the Kyoto Protocol. We will use these three complementary explanatory approaches as heuristic devices for deriving more specific explanatory perspectives. From these perspectives, we develop empirically testable propositions related to the various phases of policymaking. These perspectives can be assessed empirically by a means of pattern matching and explanation building (Yin 1989). The better the match between proposed and observed patterns in the three phases, the more confidence we will have in the ability of a given perspective to explain the phenomena it is intended to represent. A central assumption is, as noted, that the three explanatory perspectives will have different explanatory power in different phases. In essence, this work is a theoretical case study in the sense that we systematically apply propositions derived from social science theory to understand the EU Emissions Trading Scheme, using the case of the ETS to refine social science theory. Data collection has been based on interviews, official documents and secondary studies. In various rounds, we have interviewed representatives from industry, ENGOs, the European Commission, the European Parliament, member-states and also other analysts/researchers. A full list is attached in Annex I. Outline of the Book In Chapter 2, we present the analytical framework for analysis. While arguing that the three explanatory approaches are compatible and may be of differing relevance for the different policy phases, this chapter develops several testable propositions that apply to each of the three policy-making phases. As the EU is unique, being neither a federation nor an international organization or regime, it was necessary to include some general empirical information about how the EU works, in order to make sense of the various propositions.12 Chapter 3 focuses on the collective and individual outcomes of the various policy phases: the initiation, decision-making and implementation phases. This chapter takes us from the first Communication that hinted at a possible EU Emissions Trading Scheme, through the formal proposal and adoption of the ET Directive, to actual application at the level of member-states. Chapters 4–6 explain the developments set out in Chapter 3. In Chapter 4, we explain the development of the idea of emissions trading. Chapter 5 focuses on the decision-making phase and examines the development of the system. In Chapter 6, we assess and explain the implementation of the system so far, with particular attention to the level of ambition in allocating allowances. Finally, in Chapter 7, we conclude the analysis by summarizing the empirical findings, discussing the analytical implications and reflecting on the further development of the system.

12 For a discussion of the uniqueness of the EU compared to an international regime, see Skjærseth and Wettestad 2002.

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Chapter 2

Analytical Framework Why did the EU change its position on emissions trading? How did it manage to establish the world’s first international emissions trading scheme so rapidly? What are the consequences so far? These are some of the questions behind our effort to develop an analytical framework for understanding what happened, how and why. We explore the significance of three explanatory perspectives: (1) the interests and preferences of the EU member-states, (2) the role and strategies of the EU institutions and non-state actors, (3) the international climate regime. These perspectives are derived from three broader explanatory approaches applied to understand EU integration and policy-making: intergovernmentalism, multi-level governance and regime analysis. Let us start by specifying what we seek to explain. EU ETS Policy-making The EU’s turn-about on emissions trading involved three challenges: acceptance of the idea, design and adoption of the system and, finally, practical application. These three challenges can roughly be related to three policy phases in the development of the EU ETS: policy initiation, decision-making and implementation. Concerning the policy initiation phase – from the 1997 Kyoto Protocol to January 2001, when the Commission commenced drafting the emissions trading directive proposal – we are mainly interested in why and how the idea of emissions trading evolved within the EU.1 In this period, the Commission adopted two Communications on Kyoto strategy and a Green Paper on emissions trading which also initiated the discussion on design options for an emissions trading scheme. The second phase commenced with the drafting and proposal of the emissions trading directive in 2001 and ran to the final adoption of this directive in 2003 and the linking directive in 2004, which linked the EU ETS to the international flexibility mechanisms. In this decision-making phase, we ask to what extent, how and why the actors and institutions involved affected the final outcome – the design and adoption of the EU ETS. As noted in Chapter 1, proposed EU directives sometimes 1 Notice that this delimitation does not correspond perfectly to the formal legislative phases of EU decision-making. The formal decision-making phase commenced with the final proposal for an EU directive in October 2001. As the drafting of the directive – from January to October 2001 – was made subject to significant political attention, including consultation meetings with member states, industry and ENGOs, we will treat this period as a part of the decision-making process. Moreover, this delimitation will capture the consequences of the US withdrawal from the Kyoto Protocol within one policy phase. The US withdrawal had significant consequences for the EU ETS decision-making process (see Chapter 5).

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fail, as the EU carbon/energy tax. The adoption of the EU ETS is, however, closely related to the design the system.2 There are many types and variants of emissions trading schemes, and the issues involved are numerous (see Grubb et al. 1999, 206; International Energy Agency 2002; Lefevere 2005; Delbeke, ed. 2006). In the context of the EU scheme, two elements appear particularly relevant: the specific design of the scheme, and the degree of harmonization between the EU’s institutions and its member-states. These elements have important implications for the environmental consequences of the system. Central design elements include: •



Type of system refers to the two main approaches to emissions allowance trading: ‘the absolute target’ approach or the ‘relative target approach’ (Lefevere 2005; Sterk et al. 2005). The absolute target approach, or cap-andtrade, is based on a total cap on emissions from the sources covered by the system. The total cap represents the collective target that will determine the actual emissions reductions resulting from the system. When the total cap is fixed, the market will determine where emission reduction takes place. The relative target approach, or baseline-and-credit, does not set a total cap on emissions covered by the system. This type is based on an energy efficiency baseline which takes into account that technological innovation can be counterbalanced by increase in activity and production growth. From an environmental perspective, the relative target approach carries a higher risk that the system will not lead to emission reductions if production grows. Coverage refers to the number of greenhouse gases, installations, sectors and states covered by the system. One important choice here is whether participation should be mandatory or voluntary. If participation is mandatory, the system may nevertheless include rights of exempting (opt-out) or adding (opt-in) sectors and individual installations. Broad coverage in terms of gases and sectors maximizes the possibilities of finding the cheapest routes to abatement. Another important choice is the extent to which the system is to be ‘upstream’, targeting fossil-fuel producers and importers, or ‘downstream’, targeting the end-users of energy – usually the large industrial consumers of fossil fuels (Sterk et al. 2005).3 Moreover, emissions trading can either be based on ‘direct emissions’, covering an installation’s or country’s sources, or ‘indirect emissions’, taking into account the emissions from electricity consumed by an installation or country (Vis 2006a, 54).4

2 It is difficult to distinguish clearly between the adoption and design of the system in the decision-making phase. After the acceptance of the idea in the initiation phase, the decision-making phase was mainly about the design and harmonization of the system. Failure to get sufficient support for a specific type of ET system would also imply failure to get the EU ETS adopted. 3 In an upstream system the installations covered are responsible for the emissions that their goods will produce when consumed. In a downstream system, the installations are held accountable for their own emissions. 4 Under a direct emissions approach for example, if a country increases emissions by producing electricity that is exported to another country, no adjustment is undertaken for the

Analytical Framework







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Allocation of allowances: with regard to allocation of carbon allowances, there are primarily two methods: selling them through an auction (auctioning) or giving them away for free (grandfathering). Allocation for free and for payment can also be combined. The allocation methods chosen determine which actors get the economic value of the allowance (Lefevere 2005; Vis 2006b, 190). This implies that the issue of allocation is politically controversial. Compliance and enforcement: compliance at the level of installations can primarily be defined as having sufficient allowances to cover total emissions during the previous compliance period. Emissions trading requires two systems: First, in order to ensure that the figures that governments use to demonstrate compliance are real, mandatory monitoring, reporting and verification are critical. Second, non-compliance (the failure to hold sufficient allowances) must be dealt with by a financial penalty high enough to ensure that it does not make sense for an operator not to go out and buy from the market a sufficient number of allowances to cover the installation’s actual emissions. Links: we can distinguish between links to other domestic and regional emissions trading schemes and links to the flexible mechanisms under the Kyoto Protocol. Here, we focus on the links between the EU ETS and the flexible mechanisms. In 2004 the EU adopted an amending directive, linking the EU ETS to the Kyoto Protocol project mechanisms Joint Implementation (JI) and the Clean Development Mechanism (CDM).

In addition to specific design options, the other important element in EU decisionmaking is harmonization. Degree of harmonization has to do with the distribution of competence or authority between the member-states and the Community institutions. A high degree of competence at member-state level provides the latter with significant autonomy to take their individual situations into account. According to the subsidiarity principle, the Community shall take action to the extent to which objectives can be attained better at the Community level than the level of the individual memberstates.5 Nevertheless, how and the degree to which specific design features should be harmonized at Community level has by no means been clear-cut.6 A fully harmonized and centralized ET scheme can be characterized by a total cap or target fixed at EU level, identical coverage, harmonization of allocation methods and linking, and a common system for monitoring, reporting, verification and enforcement. At the other extreme, a diversified and decentralized system can be characterized by coordination between different types of national emissions emissions of the exported electricity. 5 This principle is based on the 1986 Single European Act (article 174) and expanded to all Community activities by the 1993 Maastricht Treaty. 6 In light of the subsidiarity principle, the main rationale for the EU to develop common and coordinated climate policies in the form of emissions trading is first that the Community had undertaken a commitment under the Kyoto Protocol to reduce GHG emissions by 8 per cent relative to 1990 levels between 2008 and 2012. Second, as emissions trading is an economic instrument, a common system is needed to ensure equal economic competitiveness and the functioning of the internal market.

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trading systems: cap determined at national level, different types of trading systems with varying coverage, linking and allocation methods, and national systems for monitoring, reporting, verification and enforcement.7 The degree of constraint placed on the caps (the member-states’ total allocation of allowances) is particularly important in this regard. As noted, the total cap for each member-state and for the EU combined indicate the environmental ambitiousness of the system. In addition to specific design and harmonization, the speed of the decision-making process is interesting: What consequences did the rapid pace of the policy-making process have for the shape, content and consequences of the EU ETS? Policy-making speed is obviously a relative concept. We have defined the puzzle of this book as surprisingly rapid policy-making in relation to the original scepticism as to including emissions trading in the Kyoto Protocol, and the novelty and complexity of this policy instrument. This puzzle is partly based on the assumption that it normally takes time for actors and institutions to change, adapt and adjust to new ways of dealing with ‘old’ problems. The EU has traditionally based its environmental policy on command-and-control and had no previous experience with emissions trading. Seen from an historical-institutionalist perspective, changes in underlying conditions will have a delayed effect, because institutions are conditioned by the past and institutional development tends to be path-dependent (Homeyer 2004). The other part of the basis for the puzzle is more substantive: The high policy-making speed of the EU ETS is evident in relation to other comparable decision-making processes – like the EU energy/carbon tax, which took around 12 years. The final policy phase included is the implementation phase. Implementation represents the ‘sharp end’ of the EU policy process where supra-national institutions meet a decentralized policy delivery system in which the member-states play the dominant role (Jordan 1999). Compliance at member-state level within the EU context refers to the incorporation of EU legislation in national law, and the subsequent notification of the Commission of this act. Determining whether the ends specified in the legislation are achieved is referred to as ‘application’. The distinction between ‘transposition’ and ‘application’ resembles the terms ‘formal’ and ‘practical’ compliance (Haigh 1999). Implementation started shortly after the formal adoption of the ET Directive in October 2003, with the production of National Allocation Plans (NAPs) in two rounds: 2003–05 for the ETS pilot phase, and 2005–07 for the Kyoto commitment phase. In order to assess and compare implementation among member-states, we need a criterion against which actual performance can be assessed. The main criterion applied here is goal attainment. The principal goal of the EU’s Emissions Trading Scheme is stated in Article 1 of the ET Directive: ‘This Directive establishes a scheme for greenhouse gas emissions allowance trading within the Community … in order to promote reductions of greenhouse gas emissions …’. As it is too early to assess whether the EU ETS has contributed to any actual reduction of GHGs, we have

7 A mixed system can be placed somewhere in between a fully harmonized or diversified system.

Analytical Framework

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to apply a proxy for something that will qualify to ‘promote reductions’.8 As further discussed in Chapters 3 and 6, various criteria are relevant here, such as timeliness. Nevertheless, the fundamental requirement for any environmental added value must be scarcity of allowances. In other words, there must be fewer allowances than there would be emissions in the absence of a trading regime. This simply means that in order to create a market with an allowance price high enough and stable enough to induce reductions of any emissions, the target or ‘cap’ must be set lower than the business-as-usual needs of the industries participating in the system. Consider traditional command-and-control based permits aimed at reducing emissions of hazardous substances: a precondition for any added environmental value is that the permits collectively allow less than actual emissions, according to some baseline. Our operationalization of goal attainment is thus the environmental ‘ambitiousness’ of the system, measured in terms of the stringency of allocations in relation to projected emissions. How the system is designed, harmonized, linked and applied at the national level will determine the extent to which the system will deliver environmental ambitions and actual emissions reductions. The EU ETS is an instrument for reducing greenhouse gas emissions and should be credited to the extent that it can be shown to be moving in that direction. Explaining EU Policy-making In this section we introduce three approaches for explaining EU policy-making: multilevel governance, intergovernmentalism and the international regime approach. The making of EU environmental policy has been characterized as a prime example of multi-level governance (Weale et al. 2000; Fairbrass and Jordan 2004). Decision-making competencies and influence on EU environmental policy-making are shared at several levels of government – from the sub-national, through the national to the supra-national and international levels. Another distinctive feature of EU environmental policy is the competition and cooperation between state and nonstate actors. We might say that EU environmental policy is shaped and implemented in the area between international and EU institutions, national authorities, industry and other target groups, and ENGOs at various levels of decision-making. Multi-level governance has been depicted as an alternative to state-centred intergovernmentalist approaches of European integration and policy-making (Hooghe and Marks 2001; Fairbrass and Jordan 2004). These approaches are based on different assumptions as to the principle drivers behind EU policy. In general, the intergovernmentalist perspective places main emphasis on the level of nationstates, whereas the multi-level governance approach – despite its name – mainly emphasizes the EU institutional level. With regard to multi-level governance, two underlying assumptions in particular are of relevance here.

8 As the system has been in operation for only a short time, a thorough evaluation of actual environmental effects is not possible. The first phase of the system was intended as a pilot phase based on learning by doing. The ET Directive has built-in mechanisms for assessment and improvement in light of the experience gained in the first phase (see Chapter 7).

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First, supra-national institutions are believed to have an independent influence on policy-making that exceeds their role as agents for national governments (Hooghe and Marks 2001, 3). This means that individual governments do not have full control over collective decision-making. The most obvious example is the decision rule of qualified majority; another example is the exclusive right of the European Commission to initiate legislation. These examples show that we refer to the term institution in a broad sense covering institutions as arenas as well as organizations as actors (Underdal 2002, 24). Institutions as arenas determine who deals with what, how, when and where. All organizations can serve these functions, but to qualify as noteworthy actors in their own right they have to provide independent input to the policy-making process. In either case, the fundamental basis for the independent influence of the EU institutions is that member-states have transferred parts of their sovereignty to the EU, thus making EU institutions supra-national. Second, non-state actors influence policy-making through both the formation of national preferences and directly at EU level. The separation of domestic and international politics is thus blurred by the multi-level governance approach.9 For example, industry affects the positions of national governments through national industrial federations and collective EU policy-making directly through their Euro-federations. Multi-level governance has attracted significant criticism. The most serious is perhaps that it mainly serves as a good but complex description of contemporary changes at EU level, rather than pointing to the causal drivers and mechanisms of EU integration and policy-making (Fairbrass and Jordan 2004). The strength of this approach lies primarily in its validity, i.e. ability to capture the essence of the real-world phenomena it is meant to represent. Intergovernmentalism is based on a different set of core assumptions. First, bargaining outcomes are shaped by the relative interests and preferences of the member-states, leaving scant room for autonomous supra-national institutions to influence policy-making significantly (Moravcsik 1998). Supra-national institutions mainly serve the goals of national governments. National sovereignty is not transferred – it is delegated to the EU institutions (Moravcsik 1998, 67). Second, the location of authority and policy-making influence at state level implies that non-state actors form part of domestic societal interests that shape negotiating positions. As such, intergovernmentalism is not necessarily based on the assumption that states are unitary actors.10 However, national arenas provide the sole channel for non-state actor influence at the EU level. It is the states that ‘keep the gate’ between national and international politics. According to Hooghe and Marks (2001, 3): ‘The core claim of the state-centric model is that policy-making in the EU is determined primarily by national governments constrained by political interests nested within autonomous national areas’. Intergovernmentalism has also been criticized for making unrealistic 9 Multi-level governance did originally focus on local authorities as sub-national actors, and not on pressure groups, but this latter dimension has become more important over time (Fairbrass and Jordan 2004, 152). 10 Intergovernmentalism is often referred to as Liberal Intergovernmentalism, as the aggregation of national societal preferences by the state is an integrated part of this perspective.

Analytical Framework

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assumptions by over-simplifying the nature of international cooperation (Young 1999; Fairbrass and Jordan 2004). 11 Compared to multi-level governance, the main strength of this approach is that it is more parsimonious. There is obviously a tradeoff between validity and parsimony. Despite these controversies, the intergovernmentalist and multi-level governance approaches should be seen as complementary. First, their conception of institutions is more complementary than competing. They differ more on how international institutions matter, than whether they matter. Intergovernmentalist approaches emphasize, or at least open up for, one behavioural mechanism (rationality based on the logic of consequence) through which institutions may affect collective outcomes and individual behaviour. International rules and procedures may alter the distribution of costs and benefits for individual actors, or mitigate collective action problems by reducing transaction costs or reducing incentives to cheat and defect. This approach does not altogether deny the influence of institutions as actors, but it is extremely sceptical to the influence of supra-national entrepreneurs (Moravcsik 1998, 8). Multi-level governance approaches, on the other hand, tend to assume that actors are driven by a mixture of behavioural mechanisms (norms based on the logic of appropriateness) that may be triggered under various conditions: ‘Institutionalized rules, duties, rights, and roles define acts as appropriate (normal, natural, right, good) or inappropriate (uncharacteristic, unnatural, wrong, bad)’ (March and Olsen 1996, 251). Thus, multi-level governance opens up for a wider range of institutional consequences than the intergovernmental perspective. For example, the authoritativeness of international rules may trigger the behavioural response, rather than calculation of costs and benefits.12 Second, the concept of multi-level governance implies that the interests and preferences of member-states are important for explaining outcomes. A multi-level governance decision-making system can in some sense conform to intergovernmental assumptions as to the nature and character of the international process (Weale et al. 2000, 439). This means that competing claims reflect a matter of degree in the relative explanatory power of different independent variables. When we add the nature and purpose of these approaches, their complementary nature for studying policy-making in field of climate policy becomes even clearer. Intergovernmentalism and multi-level governance are mainly applied to the study of the big questions of European integration, especially the relevant treaty amendments (Moravcsik 1998;

11 In a rejoinder to Oran Young, Moravcsik maintains that failure and success in international cooperation typically reflect national preferences, that more rigorous empirical work should be undertaken, and that there are broad areas of agreement between them (Moravcsik 1999a). 12 Levy et al. (1995, 304–7) have proposed six behavioural ‘models’ or behavioural mechanisms through which international institutions may have an impact. These include institutions as utility modifiers and enhancers of cooperation which are compatible with rationality as behavioural mechanism. Institutions as bestowers of authority and as role definers take us from the rationality assumption towards norms. For a discussion of these institutional models applied to environmental institutions, see Skjærseth 1999, Chapter 2.

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Hooghe and Marks 2001). Thus, much of the academic discussion has focused on the general direction of integration and not specific policy-making processes. Moreover, the explanatory power or descriptive value of these approaches is likely to vary from one issue-area to another. It has been argued that multi-level governance is most likely to be prominent in issues defined as ‘low politics’ by the member-states, such as environmental policy (Bache and Flinders 2004, 199). By contrast, in areas like common foreign and security policy, decision-making tends to be more intergovernmental and based on effective national veto. In addition to their complementary nature, the ‘grand theories’ are difficult to test empirically because central claims are hard to operationalize. We will regard these approaches as heuristic tools of analysis. This means that they point to the relative prominence of various levels of decision-making, channels of influence, and the relative explanatory power of different variables, rather than competing hypotheses that can be rigorously tested empirically.13 While bearing this caveat in mind, we will nevertheless extract theoretically relevant explanatory perspectives and propositions from these general approaches.14 Common to both intergovernmentalism and multi-level governance is their emphasis on EU internal factors and processes for explaining EU policy-making and integration. A central assumption of this book is that neither changes in EU institutions nor changes in the preferences of non-state actors or member-states suffice to explain the outcome in this case. In most areas of transnational environmental problems there is an international environmental regime interacting with EU environmental policy (Skjærseth and Wettestad 2002). In the area of marine pollution, for example, the international regime covering the North Sea and the wider North-east Atlantic has had significant impact on relevant EU policy, and vice-versa (Skjærseth 2006). The third explanatory approach thus looks at factors external to the EU itself (Weale et al. 2000). Our point of departure is the impact of international institutions or regimes. The classic definition of international regimes sees them as ‘sets of implicit or explicit principles, norms, rules and decision-making procedures around which actors’ expectations converge in a given area of international relations’ (Krasner 1983, 2). This approach directs the focus to the international institutional level and explains EU policy-making as the implementation of, or harmonization to, broader international commitments. An underlying assumption here is that international institutions and commitments actually matter (see Miles et al. 2002). The relevant principles, norms and rules in this specific context are those laid down in the 1992 UN Framework Convention on Climate Change and its 1997 Kyoto Protocol. The international regime approach is compatible with both multi-level governance and intergovernmentalism. Intergovernmentalism does not exclude change in member-state preferences as a result of external events. During international 13 This is further substantiated by the fact that the purpose of this book is to analyse one specific policy-making process. As pointed out by Weale et al. (2000, 22), general theories of European integration may not be well suited to understanding how policies are made and implemented in particular cases of problem-solving. 14 According to Fairbrass and Jordan (2004, 164), ‘Analysts now need to test multi-level governance in areas of both ‘high’ and ‘low’ politics’.

Analytical Framework

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negotiations, participants can learn more about each other and cooperative solutions, as long as international agreements are located within the range of nationally acceptable solutions (Weale et al. 2000, 17). Even though state preferences reflect the objectives of domestic groups which influence the state apparatus, preferences are not necessarily stable (Moravscik 1998, 24). Multi-level governance also goes well with the concept of international institutional influence. International institutions can affect the strategies of non-state actors, member-states and EU institutions through the same pathways. As noted, the explanatory power of various approaches may vary between policy phases.15 In the following, we apply the three explanatory approaches as heuristic tools for developing empirically testable propositions from the initiation to the implementation of the EU ETS, based on the positions of the member-states, the role and strategies of EU institutions and non-state actors, and the international climate regime. The Positions of Member-states The EU member-states were sceptical or even hostile to emissions trading during the 1997 Kyoto negotiations (see Grubb et al. 1999, 94). The first possible explanation for the development of the EU ETS is thus simply that the member-states changed their preferences. This explanation is compatible with both intergovernmentalist and multilevel governance approaches to EU policy-making. Among intergovernmentalists, however, member-state interests and preferences stand as the key variable. Those working within the tradition of multi-level governance see member-state preferences as one explanatory factor working in a complex relationship with other factors at various levels of decision-making. To explore the validity of this explanation, we need to know which states changed their preferences, and how such changes became channelled through the EU system. The leader–laggard dynamics between the EU member-states has been identified as one important driving force behind the expansion of EU environmental policy (see Andersen and Liefferink 1997). Its core mechanism is that environmental frontrunners, or pushers, and regulatory competition drive EU environmental policy forward (Homeyer 2001).16 With the EU ETS, we may distinguish between memberstates that support, oppose or are indifferent to emissions trading. To understand 15 The possibility that the explanatory power of different approaches may vary between different issue-areas can obviously not be checked in this study. 16 The Netherlands, Sweden, Denmark, Finland, Germany and Austria tend to be placed in the leader category, whereas Greece, Spain, Portugal and Ireland are frequently placed in the laggard group. In-between, we find Belgium, Italy, Luxemburg and France, whose support varies on a case-by-case basis. The UK represents a special case inasmuch as it left the laggard group in the late 1980s and edged towards the leader group (see Wettestad 2002). The green profiles of some of the leaders have faded quite considerably. This is particularly the case in Denmark, which has cut its environmental bureaucracy dramatically and adjusted its once ambitious external environmental positions considerably. Also the Netherlands has reduced environmental policy spending considerably in the recent years.

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national positions on emissions trading, and drawing upon Underdal (1998), we focus on the energy-economic situation, governmental supply of environmental policy instruments and societal demand for such policies. How the preferences of the member-states have been channelled through the EU system varies with different policy-making phases. In the policy initiation phase, it is the European Commission that has the formal and exclusive right to initiate and draft legislation. At least two channels can be utilized by member-states in this phase. First, the EU Presidency chairing the Council of Ministers rotates every six months, passing to a new member-state. The state occupying the presidency is responsible for chairing the meetings and dealing with unresolved problems through negotiations. Even though the agenda is inherited from the former presidency, countries can take new initiatives or complete earlier ones (Grant et al. 2000). Second, and related to the first point, the Council of Ministers may request legislative proposals from the Commission. Member-states can also influence the early stages of policy-making through advisory committees, hearings organized by the Commission, and informal consultations with the Commission. We propose that change in the positions of the member-states led to the initiation of EU ETS. The Commission acted on a request from member-states and anticipated broad-based support. According to this proposition, we expect to find: (1) a memberstate occupying the presidency took the initiative to the EU ETS; (2) the Council of Ministers requested the Commission to initiate the EU ETS; (3) there was broadbased support among member-states for an EU ETS and this pushed the Commission on this issue.17 The EU’s main legislative body is the Council of Ministers, composed of representatives of national governments. In the decision-making phase, the Council of Ministers is thus the most important institutional arena for member-states.18 The Council of Environmental Ministers meets four times a year to negotiate environmental legislation, serving as the most important forum for expressing national preferences. The member-state occupying the presidency is responsible for chairing the meetings, and it can play an important role as mediator. If the Commission does not get the necessary backing for a proposal from the Council, the proposal will fail in its intended form. How likely it is that the Commission will get the necessary backing depends on the decision rules applied. Unanimity gives each member-state more control, but increases the probabilities of deadlock. The co-decision procedure, which applies to environmental policy-making and the emissions trading directive, requires a qualified majority in the Council of Ministers. It also gives the Parliament the right to propose amendments or veto the proposal if it perceives that its amendments have not been taken sufficiently into 17 The ways in which the member states can influence proposals can work concurrently, and our confidence in this explanatory perspective will increase relative to the number of them that can be detected. 18 The Council is assisted by the Committee of Permanent Representatives (Coreper) and working groups. Coreper does the ground work and prepares the meeting of the Council, but it does not act as a central problem-solver in the field of the environment (Grant et al. 2000, 29).

Analytical Framework

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account. Qualified majority is a weighted voting system based on the principle that larger states should have more votes than smaller ones. In the period between the two recent EU enlargements (1995–2004), the UK, France, Germany and Italy had ten votes each; Spain had eight votes; Portugal, the Netherlands, Greece and Belgium had five; Sweden and Austria had four votes; Denmark, Finland and Ireland had three votes; and Luxemburg had two votes. The distribution of votes in the Council of Ministers is important for understanding how alliances are established concerning environmental legislation. First of all, we should note that it is quite difficult to establish winning coalitions. In the EU-15, a winning coalition would need 62 votes out of 87. Conversely, it is quite easy to establish a blocking minority of 26 votes, although opposition by two larger states is insufficient. Numbers are important, but in practice the Council has overruled one or more national governments on only approximately one-quarter of all decisions (Hooghe and Marks 2001, 19). The remaining three-quarters indicate the existence of a norm in the Council of Ministers that consensus-seeking and unanimity are preferable. In fact, this norm has been documented (see Wallace and Wallace 2000, 19). Even if formal voting does not take place, the possibility to do so still creates pressure to make concessions – a phenomenon described as the ‘shadow of the vote’ (Weiler 1991). In the decision-making phase, we would expect to find that the adoption of the ET Directive was a result of intergovernmental bargaining. More specifically, we would expect that the member-states significantly affected the ET Directive, particularly if they took the initiative to the system in the first place. The EU ETS thus reflected the constellation of interests and preferences among member-states, given the decision rule applied. The tension between what Hoffman refers to as the ‘logic of integration’ (Europeanism) and the ‘logic of diversity’ (nationalism) is inscribed in the sharing of competence between the ‘nationalism’ of the memberstates in the Council and the ‘Europeanism’ of the Commission and the Parliament (Hoffman 1966). However, some member-states are pushing for greater autonomy than others. This leads us to propose that the EU ETS reflects the interests and positions of the member-states. Thus we expect to find that: (1) the EU ETS ended up as basically a decentralized system, providing significant autonomy and discretion to the member-states. In particular, decentralized allocation of allowances enables the member-states to adapt allocation to national needs; (2) the design of the EU ETS did not deviate significantly from the preferences of member-states that are large in term of votes and share of allowances under the ETS. Although opposition by two larger states would be insufficient to block a proposal in the formal sense, larger member-states would have significant political weight as a result of a relatively large share of the total amount of allowances under the ET system. The implementation phase has been referred to as a phase where supra-national institutions meet a decentralized policy delivery system in which the memberstates play the dominant role. Implementation at member-state level is likely to be affected by a wide range of factors at both national and EU levels (Skjærseth 2000). The institutional arrangements established in an early phase may be important for outcome at later stages (Young 1989; Underdal and Hanf 2000). Previous research

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has linked this assumption to access and participation (Victor et al. 1998). The essence is whether and how the actors and organizations responsible for carrying out implementation are involved in formulating positions and goals at an earlier stage of the policy process (Skjærseth ed. 2004). We shall develop this perspective further by focusing on the link between the design of the system itself and implementation. It is reasonable to assume that a basically decentralized ET system will promote high acceptance among memberstates. In particular, decentralized allocation of allowances will enable member-states to adapt the allocation process to their own national circumstances. Participants who feel ownership of the process are more likely to abide by the rules than those who do not feel such ownership based on a perception of fair or equitable process (Franck 1990). High legitimacy will thus probably lead to smooth implementation in a ‘formal’ sense. The point is that high influence in the initiation and decision-making phase will indicate high legitimacy and willingness to follow through. However, there is likely to be a trade-off between high legitimacy and high environmental ambitiousness. A decentralized ET system will leave the allocation of allowances to the discretion of the member-states. Lack of harmonization will lead each state to allocate allowances in light of total allowances in ‘rival’ countries. Countries will thus be inclined to lower their ambitions to avoid loss of competitiveness (Porter 1999). The member-states will have incentives to protect their own industries by providing them with generous allocations. This in turn means that high memberstate autonomy in the implementation of the EU ETS will probably lead to a ‘raceto-the-bottom’, resulting in relatively low environmental ambitiousness. Against this backdrop we propose that a decentralized EU ETS will lead to low but varying environmental ambitiousness due to differing national circumstances. In line with this proposition, we expect to find that: (1) the member-states have overallocated the total amount of allowances in relation to projected emissions; (2) the differences in member-state allocations are more striking than the similarities; (3) the most important explanation of varying allocation can be found at the domestic level.19 Against this background, we will undertake a preliminary assessment of implementation. True, this is still at a relatively early stage, but the first round of allocation has been completed, the first actual emission figures have been published, and the second round of allocation is near completion at the time of writing. EU Institutions and Non-state Actors The second explanation of why the European Union developed the emissions trading scheme after initial scepticism is that the EU institutions and non-state actors at EU level changed their positions, procedures or strategies. Whereas intergovernmentalist approaches do not rule out the significance of such changes in every respect, the impact of EU institutions and the influence of non-state actors 19 For practical reasons, we do not assess implementation at target-group level. This would require an assessment of whether operators and installations comply with monitoring, reporting and verification requirements and the requirement to surrender allowances for each tonne of emissions controlled by the system.

Analytical Framework

23

represent key explanatory factors within the multi-level governance approach. European institutions like the Commission, the Parliament and the Court of Justice have been endowed with formal authority by the member-states. The Commission has the exclusive right to initiate legislation, the Parliament has a formal right to amend and even veto proposed legislation under the co-decision procedure, and the European Court of Justice can enforce legislation (especially together with the Commission). By contrast, industry and ENGOs do not enjoy these formal rights. What such non-state actors have is mainly the informal power to protract, amend and possibly block legislation.20 EU Institutions The intergovernmentalist approach tends, as noted, to downplay the independent role of the EU institutions. The conditions whereby a supra-national entrepreneur like the Commission can wield effective influence (such as privileged access to the information and ideas necessary to act as entrepreneurs) have been held to be exceedingly rare in the EU (Moravcik 1999a, b). Ideas generally emanate from a broad range of sources external to the Commission, including requests from other EU institutions and responses to international obligations (Hooghe and Marks 2001, 13). In fact the Commission has maintained that only 5 to 10 per cent of legislative proposals arise ‘spontaneously’ within the Commission itself (ibid.). It has been suggested that the Commission’s entrepreneurial role is most prominent when there is domestic uncertainty and disagreement – implying that the member-states’ positions in these cases tend to be less fixed or strong, leaving the field more open to supra-national entrepreneurs (Moravcik 1999a, b). Also Arild Underdal points to complexity as a central conditioning factor for the role of leadership in negotiation processes in international institutions: ‘the more complex the problem and the less compatible the actors’ interests, the greater the scope for instrumental leadership’ (1994, 192). In the phase of policy initiation, several factors would lead us to expect a prominent role for the Commission. As mentioned earlier, the Commission is basically the main formal agenda-setter in the EU. The specific case of emissions trading has been characterized by a generally high lack of knowledge and intrinsic level of complexity. This was an instrument which few actors in the EU, apart from scientists and researchers, knew much about or had any practical experience with. Taken together, this forms the basis for an assumption along the lines that the emissions trading initiative belonged to the minority category referred to above: it was the Commission that independently launched emissions trading as a major EU climate policy instrument. The Commission may have been motivated by the need for new policy instruments to achieve relevant climate goals. With regard to the Commission’s ability to take things forward speedily, this is clearly related to the degree of internal cohesion and agreement in the Commission itself, a body that has been characterized as basically segmented (Sbragia 2000, 20 This does not mean that non-state actors have no formal right in EU policy-making. For example, the 1998 Aarhus Convention gives certain rights to information.

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EU Emissions Trading

298). Among the 23 directorates general, Directorate General (DG) Environment has been depicted as being weak, with a very small staff compared to other DGs; some have even claimed it is dominated by ‘ecological freaks’ (Grant et al. 2000, 21). In the intra-Commission power play, it has been maintained that the DGs concerned with industrial and economic affairs generally try to weaken or block proposals introduced by DG Environment, and these DGs concerned with economic affairs typically have far greater resources and technical expertise than DG Environment (Sbragia 2000; Weale et al. 2000, 119). One would assume that the DG Environment of the European Commission has the easiest internal ride with policy ideas and proposals that resonate – or can be framed to resonate – well with main thinking and preferences in these other and more powerful directorates. Seen in this light, emissions trading could have been a comparatively good case for DG Environment. Such trading offers industry greater flexibility and financial incentives than command-and-control and taxes. Hence, the trading idea can be assumed to have resonated reasonably well with the traditional DG Environment counterparts indicated above. In essence, we propose that the Commission changed its position on emissions trading and initiated the EU ETS independently (not as a response to a specific request from member states and anticipated broad-based support). According to this proposition, we expect to find that: (1) the European Commission actually changed its position and announced the plans for an EU ETS to the member-states; (2) the Commission built independent internal knowledge on emissions trading design; (3) the Commission actively promoted the idea of emissions trading to stakeholders and tried to win support for an EU Emissions Trading Scheme. In the decision-making phase, the Commission has often continued to play an important role. Although the Commission is no formal legislator, as is the case of the European Parliament (EP), it may still be quite influential in the decision-making phase. As noted by Nugent (1999, 120 and 370), under the co-decision procedure it is difficult for the Council or the EP to amend a Commission proposal without the Commission’s agreement. If the EP and the Council agree to adopt a proposal at the first reading in the Parliament, then this is possible only if there is unanimous support in the Council for the amendments on which the Commission does not agree. If the Council and the EP do not agree at the first reading, the Council goes on to adopt a common position, and subsequently a second reading takes place in the EP. To assist the EP in its deliberations, the Commission must explain its position, including whether or not it will accept EP amendments. The EP can then only adopt amendments not accepted by the Commission in the second reading with the support of an absolute majority of its component members (and, similar to the first reading situation, the Council can do so only by unanimous support). As commented by Nugent (1999, 367), this is a procedure ‘that strongly encourages the EP, the Council and the Commission to engage in intensive and extensive inter-institutional bargaining’. Furthermore, the Commission can influence decision-making through information and expertise demanded by the Council of Ministers. As pointed out by Nugent (1999, 140), being seen as non-partisan, the Commission is well-placed to act as mediator and conciliator. But it also has a more active side: Hix (1999) and Hooghe and Marks

Analytical Framework

25

(2001) provide several examples of the Commission’s ability to act as a tactically very capable player, at any time able to issue revised proposals and free to frame policy issues in the way it perceives most likely to secure support in the legislative process. The Commission can be seen as a policy entrepreneur, ‘selecting the policies that promote its interests; restricting the available choices for governments; continually pressing and negotiating until it gets what it wants; and involving other actors in the policy process to force reluctant governments to accept its proposals’ (Hix 1999, 237). Given the specific issue characteristics of emissions trading discussed above, there are good reasons to expect a relatively prominent continuing role for the Commission in the ETS decision-making phase. This is particularly likely if the Commission initiated the ETS independently. The Commission is likely to seek backing for upholding a system with high degree of harmonization at EU level, giving it a comparatively strong position in the further development of the system. The European Parliament has become increasingly important and in fact a co-legislator together with the Council of Ministers. The 1993 Maastricht Treaty introduced the co-decision procedure and the 1999 Amsterdam Treaty made it the standard procedure on environmental legislation (Haigh 2006). As noted above, codecision means, among other things, that the EP can propose amendments in two rounds (‘readings’) and may veto the adoption of an entire proposal if it feels that its amendments are not sufficiently reflected in the final text.21 The EP has often been depicted as the greenest of the EU institutions (see Sbragia 2000, 302), inducing governments to accept tougher standards on for instance sulphur in motor fuels, power-station emissions and packaging waste. There are various reasons for this relative greenness (see Weale et al. 2000, 92–93; Wurzel 2002, 70). First, the Parliament is organized into 20 committees, and its comparatively large environment committee (the 60-member Committee on the Environment, Public Health and Food Safety) is generally seen as internally powerful and the natural ally of the DG Environment. Second, there is the influence of the Green MEPs within the Parliament, whose representation may be proportionately larger than within a given member-state. Third, the environment is one of the truly transnational issues dealt with by the EU. ‘As such, European elections, commonly fought on a domestic agenda, have in the environment a distinctly European issue which is appropriately addressed by the Parliament’ (Weale et al. 2000, 93). However, it should also be kept in mind that the 1999 elections to the European Parliament ‘dethroned’ the Socialist group (PSE) from the majority position in the EP and put the centre-right group (European People’s Party, Christian Democrats – EPP) in this position (Bomberg and Burns 1999).22 Still, the EP’s large environmental

21 The adoption of a proposal usually requires two readings. If the Council accepts all Parliament’s amendments in the first reading, the proposal can be adopted at the first reading. 22 This has led analysts such as Grant et al. to question the ‘greening’ effect of the EP and characterize it as basically unpredictable: ‘The parties of the centre-right who became the largest single group after the 1999 elections tend to be resistant to any calls for higher standards that impose significant costs on industry, while even the support of the Greens cannot be relied upon as they may prefer ‘no action to bad action’ (Grant et al. 2000, 36).

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EU Emissions Trading

committee and the transnational nature of climate politics lead us to expect to find the Parliament functioning as a watchdog for the environmental integrity of the ET proposal. The natural policy response to the ‘race-to-the-bottom’ referred to above is a higher degree of harmonization in the allocation of allowances. We would thus expect the EP to prefer a high degree of harmonization at EU level. As the Commission, it is natural to assume that the EP has most relative clout towards the other EU bodies if it is internally unified (Weale et al. 2000, 93).23 However, building agreement in the EP on the specific issue of emissions trading may not necessarily have been easy. As indicated, the instrument of emissions trading is multi-faceted and complex, while the EP has been characterized as suffering from a ‘technological deficit’ and generally lacking scientific and technical information (Wurzel 2002, 71; Weale et al. 2000, 117). Complex issue characteristics probably make effective leadership even more important for building internal agreement and communicating well externally. In addition to the Committee Chair, the role of the rapporteur is central here (see Nugent 1999, 238). The rapporteur is responsible for drawing up the committee’s report on a specific policy proposal and acting as the committee’s principal spokesman on the proposal. Effective committee chairs and rapporteurs should generally be able to build bridges and communicate well with any groups inclined to resist an initiative. In essence, we propose that the EU ETS reflects the harmonization ambition of the positions of the Commission and the Parliament rather than the positions of the member-states. Accordingly, we expect to find that: (1) the Commission and the Parliament preferred a more centralized system than the member-states (to counter incentives for member-states to protect their own industries by providing them with generous allocations); (2) the EU ETS was basically a centralized system providing little autonomy and discretion to the member-states; (3) the design of the EU ETS did not deviate significantly from the positions of the Commission and particularly the Parliament on harmonization of other design issues than the degree of constraint placed on member-states’ total allocation of allowances. The Commission has executive power and oversees implementation. In this phase, the Commission has the authority to exert pressure on member-states to observe the provisions of EU environmental law. Such pressure is exercised in the shadow of the European Court of Justice (ECJ). Implementation of environmental legislation has long been a problem in EU environmental politics. Jordan (1999) refers to this problem as an ‘implementation gap’. This gap is likely to increase when the match between existing policy instruments and those emerging from EU policies is low (Knill and Lenschow 2000). In a highly harmonized and centralized ETS shaped largely by the Commission and the Parliament, we would expect significant ‘formal’ implementation problems among member-states. This is likely to occur whenever the positions of the memberstates are not sufficiently taken into account. On the other hand, a centralized and harmonized system will provide the Commission and the ECJ with significant authority and power to oversee the allocation process. Common procedures and 23 As stated by Bomberg and Burns (1999, 178):’For the EP to stand up to other institutions over legislation it must act as one by securing an absolute majority of all its members’.

Analytical Framework

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criteria for allocation of allowances will counterbalance a ‘race-to-the-bottom’ dynamic among member-states and pull in the direction of high(er) environmental ambitiousness. Against this background, we propose that a centralized EU ETS will lead to generally high environmental ambitiousness, due to common EU criteria. Accordingly, we expect to find that: (1) scarcity is provided for in the market by allocation of significantly less allowances than are projected to be needed; (2) the similarities in the member-state’s implementation of the EU ETS are more striking than the differences; (3) the most important explanation of implementation is to be found at EU level, particularly in common allocation criteria and the pressure of the ECJ and the Commission on member-states. Non-state Actors at EU Level Non-state actors have generally played an important role in the making of EU environmental legislation, even though industry and ENGOs have no formal right to initiate or veto EU legislative proposals (see Grant et al. 2000). As it is extremely difficult to systematically assess the influence of non-state actors in all three policy phases under scrutiny here,24 this section seeks to develop general assumptions on the strategies and sources for influence of non-state actors, rather than any specific propositions linked to the initiation, decision-making and (particularly) implementation of the EU ETS.25 We assume that a development towards converging and supportive positions within and between industry and ENGOs represented a necessary condition for the rapid making of the EU Emission Trading Scheme. During the Kyoto negotiations, most Europe-based green organizations united in their opposition to emissions trading under the slogan ‘trading pollution is not a solution’. Industry – particularly the fossil fuel industry – opposed any mandatory targets and measures, but was more positive to emissions trading than taxes. From an industrial perspective, the main difference is that emissions trading provides companies with a tradable asset, whereas taxes extract revenues from companies.

24 This does not imply that it is impossible to develop propositions related to specific policy phases. In the policy initiation phase, the need for external information opens up for policy learning by the Commission and gives non-state actors a possibility to influence policy initiation by their expertise. The hardest task for non-state actors, particularly ENGOs, is probably to influence the Council of Ministers in the decision-making phase. At this stage, and under qualified majority, lobby activities must be coordinated across the member states. Finally, non-state actors are important for implementing environmental legislation as private companies constitute the main operators within the EU ETS. In addition to their agenda setting role, ENGOs can here perform the role as ‘watchdogs’ in the implementation phase by notifying the Commission of non-compliance. 25 As noted above in note 19, assessing implementation at target-group level would be too challenging.

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Supportive and converging positions may evolve from at least two different relationships between the EU and non-state actors.26 First, the EU institutions can affect the strategies of non-state actors by providing new knowledge, pressure or commercial opportunities (Skjærseth and Skodvin 2003). Second, non-state actors can affect EU policy.27 This latter relationship is examined below. We pay particular attention to industry, as companies constitute key operators in the EU ETS system.28 Lobbying is seen as an integrated part of the EU policy-making process (Andersen and Eliassen 2001).29 Industry and green organizations can provide information and expertise to EU institutions; they are also involved to varying degrees in all phases of EU policy-making. Business influence tends to outmatch the green organizations in EU environmental policy (Grant et al. 2000).30 The proposal for the EU carbon/ energy tax is one example. As noted in Chapter 1, industry was able to water down the Commission proposal in a way that also contributed to eroding the consensus among member-states. Representatives of major European companies have ranked EU channels of influence as ‘particularly important’ with regard to two out of seven issues: trade and environmental policy (Grant et al. 2000). Industry potentially affects policy-making both directly and indirectly (Newell 2000). Indirect structural influence is related to the policy-maker’s dependence upon industry. Industry is important to economic growth, employment and technological innovation, not least in the energy sector, which tends to be viewed as a strategic EU objective. ‘Business can claim that only it can deliver the still widely held goals of economic growth and prosperity which are central to the project of European economic integration’ (Grant et al. 2000, 51). This structural dependency tends to provide industry with privileged and informal access to decision-making, although this is difficult to observe directly. Business and industry have developed multiple forms of representation at EU level in the form of informal networks and formal associations at product, sector and cross-sectoral level – the latter represented by the Union of Industrial and Employers’ Confederations of Europe (UNICE). Direct 26 A third possibility could be that industries change strategies due to sector-specific or corporate specific reasons. 27 This is reflected not least in the emerging literature on the role of multinational companies in policy-making (see Risse-Kappen 1995). 28 The assumption that the strategies of industrial actors have affected the rapid development of the EU ETS rests on the premise that they actually influence policy-making. The independent influence of non-state actors is, however, extremely hard to measure, as mobilization of non-state actors at EU level does not necessarily equal independent influence on policy-making. 29 Today there are over 15,000 lobbyists in Brussels. According to Corporate Watch, 70 per cent represent corporate interests, operating in hundreds of lobbying consultancies and agencies in a lobby industry generating about 90 million Euro every year . 30 However, most analysts seem to agree that ENGOs play an important indirect role in the policy initiation or agenda-setting phase by activating social demands and by creating expectations. This role has been visible in international and EU climate policy (Grant et al. 2000; Newell 2000; Betsill and Corell 2001).

Analytical Framework

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instrumental influence is based on huge administrative, scientific and financial resources that can be deployed to persuade decision-makers by various means (Skjærseth 2004). The literature on corporate management and the natural environment generally distinguishes between some notion of proactive/offensive and reactive/defensive environmental strategies (Steger 1993; Ghobadian et al. 1998). With regard to oil companies and climate change, for example, companies operating within the same branch have adopted significantly different climate strategies when faced with the same problem (Skjærseth and Skodvin 2003).31 Since affected companies and sectors may approach environmental measures differently, the influence of industry on EU policy-making depends first on how cohesive their strategies are. The strategies employed by target groups are likely to enhance influence if major companies and industry-sectors stand united in their support or opposition to specific policy proposals. Broad-based industrial opposition to environmental legislation may weaken the internal unity of the Commission by pitting the DGs responsible for industry and trade against the DG Environment. Second, the influence of industry depends on the strategies and strength of counterbalancing forces. The environmental movement tends to represent a significant counterbalancing force to target groups concerned mainly with abatement costs. ENGO strategies can be exercised at EU level through ten organizations with permanent representation in Brussels.32 Climate Action Network Europe (CNE) has been particularly active in EU climate policy. These organizations cannot match industry with regard to financial resources, representation and informal contact with decision-makers – but they are taken seriously for other reasons. ‘Environmental groups play on policy-makers’ perceptions that they represent [a] “public interest” or at least that their motives transcend the narrow profit-making goals of their corporate counterparts. It is their perceived legitimacy in this regard, as well as the symbolic potency of their ideas and popularity of their values, that encourage policy-makers to take them seriously’ (Grant et al. 2000, 62). Support from ENGOs is thus crucial for the EU as they have the ability to increase the legitimacy of specific policy proposals. It is unlikely that the ‘green’ European Parliament, generally claimed to be very open to ENGO lobbyists and their positions, will support any environmental legislation that is widely opposed by the green movement. Taken together, supportive convergence between industry strategies representing ‘economic growth and prosperity’ and the 31 Given a certain environmental risk inherent in a company’s activities, a proactive company motivated by profits and survival will exploit new market opportunities and support stringent environmental legislation. A proactive strategy may be based on unilateral action and express itself by demonstrating that new instruments work, thereby setting a good example for others to follow. Conversely, a reactive company will deliberately leave market opportunities unexploited and oppose environmental legislation. In this case, corporate influence may be based on coercion. Companies can lobby decision-makers by the use of threats and persuasion aimed at affecting the perception of costs and benefits among decision-makers. 32 These are the CEE bankwatch network; Friends of Nature; Epha Environmental Health Network; Birdlife; Climate Action Network Europe (CNE); European Environmental Bureau (EEB); Friends of the Earth Europe (FoE); Greenpeace Europe; Transport and Environment; WWF Europe (World Wide Fund for Nature).

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green movement representing the ‘public interest’ would constitute a significant legitimizing force and thereby facilitate an EU ETS. This may result either from the influence of the EU institutions or from the ability of these actors to influence the design of the emissions trading system in line with their own specific interests. International Regimes The final explanatory perspective applied to understand the development of the emissions trading scheme concerns changes in the wider international institutional context within which the EU operates. This perspective takes us from EU internal explanatory factors to the context of international climate policy: the UNFCCC and the Kyoto Protocol. How can international regimes influence the diffusion of policy instruments? More specifically, how could the Kyoto Protocol affect the making of the EU Emissions Trading Scheme even before it had entered into force?33 Building on Skjærseth and Skodvin (2003) and on Oberthür and Tänzler (2007), we assume that the climate regime has affected the EU ETS by means of pressure, opportunities and learning. First, international regimes can increase pressure on governments to be able to comply with their international commitments. Such pressure may increase the willingness of governments to implement innovative policy instruments (Oberthür and Tänzler 2007). A necessary condition for this mechanism is that the relevant agreement is expected to enter into force. Second, international regimes can provide new economic opportunities. In particular, they can provide special incentives to implement particular innovative policy instruments (ibid.). Finally, international regimes may facilitate learning – typically in the form of new ideas about measures likely to prove effective in solving the problem (Levy et al. 1995, 306). This resembles the study of policy diffusion34 which emphasizes learning through effective communication (Rogers 1995). In the context of international environmental institutions, the focus is on how non-binding institutional guidelines can facilitate effectiveness and enhance the legitimacy and norm development of certain policies (Bush et al. 2006; Tews 2006).35 Examples of policy diffusion between environmental institutions include the principle of precautionary action and ecosystem management (Stokke 2000; 2001). Both pressure, opportunities and learning are assumed to play a role in the policy initiation phase. However, learning is probably especially important in this phase, simply because sensitivity to new ideas is high when the institutional processes are open and close in time. The positions of actors tend to be less fixed at this stage, as they are less aware of the distribution of costs and benefits flowing from different 33 The Kyoto Protocol did not enter into force until February 2005. 34 This is an established concept within comparative politics and comparative environmental politics. Its main focus is on the horizontal (across states) spread of policy instruments. 35 According to Tews (2006:100), diffusion is the spreading of innovations due to communication instead of hierarchy or collective binding decision-making within international institutions. Innovations should in this context be understood as a programme, idea or practice that is new to the government adopting it.

Analytical Framework

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political options. Actors typically enter into a process of discovering, inventing and exploring both own interests and possible solutions. The actual processes through which cross-institutional learning occurs are, however, not well understood (Levy et al. 1995, 306). According to Evans and Davies (1999), one condition for learning to take place is that the solution (here: emissions trading) is actively promoted by other participants in the source institution – in this case, the climate regime. We would thus expect the climate regime to explain why the EU embraced the idea of emissions trading in the policy initiation phase. More specifically, we propose that EU institutions and actors initiated the EU ETS in response to the international climate regime. We would then expect to find that: (1) emissions trading was included in the Kyoto Protocol without forming part of the EU’s negotiating position. This would give the climate regime a significant potential to affect the EU’s position on emissions trading; and (2) the climate regime facilitated EU initiation of emissions trading through pressure, opportunities and learning. Pressure can be observed to the extent the EU ETS was explicitly initiated as an instrument to achieve the Kyoto Protocol commitments; economic opportunities are provided by the climate regime to the extent the EU ETS would reduce the costs of complying with the Kyoto Protocol commitments; learning takes place to the extent the climate regime facilitates active promotion of emissions trading by other participants in the climate regime. In the decision-making phase, the question is whether the climate regime affected the final outcome of the EU ETS. In this phase, the threshold for external influence is likely to be higher as attention is increasingly directed towards institutions and actors with a formal role in EU decision-making. Institutional processes are increasingly closed to outsiders, and actor positions become more fixed as awareness of the costs and benefits linked to various options grows. Shocks and crises in the institutional environment may, however, penetrate internal EU decision-making processes. It is reasonable to assume that significant changes in the climate regime can alter the costs and benefits of options available in the EU and thereby affect the range of politically feasible solutions. If the climate regime introduced the idea of emissions trading to the EU, it is also likely that the regime affected the design and adoption of the EU ETS. Given these assumptions, we propose that the EU ETS came to reflect developments within the international climate regime. Accordingly, we expect to find that: (1) a crisis in the climate regime penetrated the internal EU decision-making process; (2) the EU expected the Kyoto Protocol to enter into force despite uncertainty as to its ratification; (3) the rules for international emissions trading determined the rules for the EU ETS; (4) the time schedule for the EU ETS decision-making process was influenced by the climate regime. Finally, the climate regime can facilitate deliberate coordination of activities in the implementation phase. In a dense international institutional environment, EU directives will have to be coordinated with broader international rules and procedures. Such deliberate coordination between two institutions can be understood as a form of institutional interaction (Oberthür and Gehring 2006). In the context of emissions trading, the links between the EU ETS and the Clean Development Mechanism (CDM) and the Joint Implementation (JI) mechanism of the Kyoto Protocol are particularly relevant. In addition to this institutional link, we shall explore another

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international dimension that has to do with the extent to which the EU ETS industries are exposed, and hence vulnerable, to global competition. In October 2004, the EU adopted the Linking Directive which links the Emissions Trading Directive to the CDM and JI mechanisms of the Kyoto Protocol. As CDM projects in Third World countries imply a higher risk and complexity than allowance trading between industrialized countries, it is reasonable to assume that CDM allowances/credits will be traded at lower prices than EU allowances. Hence, on the one hand, a direct link between the EU ETS and the Kyoto Mechanisms can reduce the costs of compliance for sectors covered by the ET Directive by allowing emission reduction in another member-state or non-EU member-state at lower costs. The availability of CDM credits would thus make it easier for industries to agree to ambitious allocation. This in turn means that a strong link between the national allocation of allowances and CDM is likely to increase ambitiousness. On the other hand, such a strong link may decrease the pressure on EU governments to take real action in their own countries. The link between the EU ETS and the flexible mechanisms under the Kyoto Protocol is thus likely to reduce compliance costs and increase the ambitiousness of allocations, at the expense of pressure on EU governments to take real action in their own countries. Moreover, and turning to the global competition perspective, industries under the EU ETS exposed to global competition are likely to press for generous allocation of allowances to keep the carbon price and potential abatement costs down. Conversely, low exposure could reduce industrial opposition to ambitious allocation. Against this background, we propose that a strong link between the EU ETS and the climate regime’s flexible mechanisms, and low industrial exposure to global competition, will increase environmental ambitiousness. Accordingly, we expect to find that: (1) credits from CDM projects have been utilized to supplement national allocation of allowances; (2) low industrial exposure to international competition has led industry to refrain from lobbying against ambitious allocations; (3) an important explanation of implementation is to be found at international level particularly in the climate regime and the Kyoto Protocol’s flexible mechanisms. Conclusion This chapter has sought to develop an analytical framework for understanding why, how and with what consequences the EU developed the world’s first international emissions trading system so rapidly. We have distinguished between three phases of policy-making: initiation, decision-making and implementation. In order to explain the development of the EU Emissions Trading Scheme from a vague idea to the actual allocation of carbon allowances, we applied three explanatory perspectives derived from the following three general approaches: First, the intergovernmental approach, which focuses mainly on the level of nation-states. Second, the multilevel governance approach, which, despite the name, is mainly concerned with the EU level. Finally, we applied the international regime approach, which is mainly concerned with the international level. These approaches are clearly complementary,

Analytical Framework

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but point to different decision-making levels, actors, institutions and mechanisms to explain what happened. Table 2.1

Summary of propositions Policy initiation

Decision-making

Implementation

Member-state level

Change in the positions of the member-states lead to the initiation of EU ETS. Commission acts on a request from member-states and anticipates broadbased support.

The EU ETS reflects the interests/positions of the member-states. It is decentralized.

A decentralized EU ETS will lead to low but varying environmental ambitiousness, due to differing national circumstances.

EU level

Commission changed its position on emissions trading and initiated the EU ETS independently.

The EU ETS reflects the harmonization ambition of the Commission and the Parliament. It is centralized.

A centralized EU ETS will lead to generally high environmental ambitiousness, due to common EU criteria.

International level

EU institutions and actors initiated the EU ETS in response to the international climate regime.

The EU ETS reflects the developments within the international climate regime.

A strong link between the EU ETS and the climate regime’s flexible mechanisms, and low industrial exposure to global competition, will increase environmental ambitiousness.

In Table 2.1 we have summarized the propositions derived from the explanatory perspectives. For each proposition, we have throughout the chapter listed indicators for what we expect to find, thus making the propositions empirically testable. We have also referred to various assumptions and conditions underlying these propositions. The most important is that a development towards converging and supportive positions within and between industry and ENGOs represent a necessary condition for the rapid making of the EU ETS within the multi-level governance approach. In the next chapter, we analyse the main collective and individual outcomes in the three policy-making phases, focusing on the development of the idea, the specific design, harmonization and adoption of the system and ambitiousness in the practical application of the system. That chapter will serve as the point of departure

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for explaining these outcomes in Chapters 4, 5 and 6. Chapter 4 focuses on policy initiation, Chapter 5 on decision-making, and Chapter 6 on implementation.

Chapter 3

Development of the EU ETS This chapter provides an initial overview of the development of the EU Emissions Trading Scheme, broken down into three policy phases. First is the phase of initiation, which started after Kyoto in 1997 and ended with the March 2000 Green Paper, before the European Commission started drafting the ET directive proposal in January 2001. Here we need to analyse how the idea of emissions trading developed within the EU, along with how main issues of design were gradually clarified. Second is the decision-making phase, starting with the Commission’s drafting of the ET directive proposal in 2001 and ending with the formal adoption of the Linking Directive in October 2004. In this phase, the main focus is on the changes that took place between the Commission’s ET directive proposal and the final political agreement on the 2003 ET Directive between the Council and the Parliament in June 2003. The third phase, implementation, started immediately after the formal adoption of the ET Directive in October 2003, with the production of National Allocation Plans (NAPs) in two rounds: 2003–05 for the EU ETS pilot phase; and 2005–07 for the Kyoto commitment phase. The main question here is to what extent the member-states have achieved the goal of promoting reductions of greenhouse gases. As not long time has passed, we examine primarily the ambitiousness of allocations. Initiation: From Idea to Green Paper The Kyoto Protocol, negotiated in December 1997, established three flexible mechanisms as important aspects of global climate policy: Emissions Trading (ET), Joint Implementation (JI), and the Clean Development Mechanism (CDM). During the Kyoto negotiations, the EU opposed flexibility and argued in favour of domestic action. As the USA was not willing to accept a binding numerical target without flexibility, the EU had to yield, in order to ensure that a binding target was achieved in the Kyoto Protocol. Emissions trading was thus included in the Kyoto Protocol (Article 17), but merely as an option. The specific rules for international emissions trading were to be defined later. At this time the Kyoto Protocol was far from being ratified, and was consequently not binding for the EU member-states. Nevertheless, in May 1998, what may have been the first officially positive signals on emissions trading came out of the Commission. In connection with the preparatory process for a meeting within the Kyoto Protocol in Bonn in June 1998, a Commission official, speaking to International Environment Reporter on the condition of anonymity, stated: we need to break away from this black-and-white picture where the US, Canada and Japan, and others are seen as the driving forces behind emissions trading while the EU is

36

EU Emissions Trading seen as obstructing progress…We want to make a constructive contribution to setting the rules and regulations for an international emissions trading scheme that will help meet the goals of the protocol.1

This was followed up in June by Environment Commissioner Ritt Bjerregaard, who proclaimed: ‘we have to get involved in emissions trading [...] we cannot let others dictate the rules’.2 Here it should be noted that the outlook of the Commission with regard to emissions trading was still primarily international in nature. The EU expected agreement to be reached on international rules for emissions trading at the UNFCCC Fourth Conference of the Parties (CoP-4) in Buenos Aires in November that year. In June 1998, the European Commission published the Communication Climate Change – Towards an EU Post-Kyoto Strategy,3 which can be seen as the first step in the development of an EU strategy to meet the Kyoto Protocol commitments. As described in Chapter 1, at Kyoto the EU had agreed to reduce emissions of greenhouse gases (GHGs) by 8 per cent of 1990 levels by 2008–12. The Communication put a series of key questions to the Council of Ministers. The more short-term horizon was the upcoming CoP-4 in Buenos Aires, and the questions related partly to the formulation and clarification of the EU’s negotiating position. A comprehensive climate strategy would have to incorporate all sectors of the EU economy, possible areas for action, and the international dimension. To develop this strategy the Community and the member-states were to start an interactive process. An EU framework could be established to co-ordinate their respective actions, exchange data, track progress and identify areas for action to meet commitments. It was underlined that if demonstrable progress were to be realized by 2005 – as called for in the Kyoto Protocol – ‘then certain elements need to be in place by 2002 which requires a confirmation to move on certain actions now’.4 The Communication noted that a comprehensive strategy would need to take into account all the provisions in the Kyoto Protocol, in particular the ‘flexible mechanisms’. These mechanisms could ‘play an important role in meeting commitments at less cost, thereby safeguarding the competitiveness of EU industry’.5 The weight given to these mechanisms, which the EU had originally opposed, is reflected in the fact that roughly two-thirds of the 1998 Communication dealt with various aspects of them. With regard to emissions trading specifically, a Communitywide approach was seen as preferable to one with differing member-state systems,

1 International Environment Reporter (27 May 1998), ‘EU Divided on Whether to Limit Use of Emission Trades for Meeting Targets’, 21:11, 503. 2 International Environment Reporter (24 June 1998), ‘EU Agrees on Burden-sharing Plan for Emission Cuts under Kyoto Protocol’, 21:13, 609. 3 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels). 4 Ibid., 12. 5 Ibid., 2.

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37

in order to facilitate administrative implementation of the system and prevent new barriers to trade.6 The lack of national and international experience pointed towards a step-by-step approach.7 This could mean initially limiting: • • •

the number of gases included to CO2, the best-documented greenhouse gas; trading to best-known sources, such as large combustion plants; trading to member-states and not private entities.

Importantly, the Communication stated: ‘the Community could set up its own internal trading regime by 2005 …. This would provide the Community with invaluable practical experience of trading … and ensure that the Community would be better prepared at the start of international emissions trading with effect from 2008’.8 This led on to a request to the Council for more general endorsement of ‘the introduction of the flexible mechanisms in a step-by-step and co-ordinated way within the Community’.9 Hence, it seems reasonable to conclude that the idea of an internal EU Emissions Trading Scheme was now officially launched – cautiously and tentatively – by the Commission. With regard to international emissions trading within the context of the Kyoto Protocol, the Communication emphasized the principles of openness, transparency, non-discrimination, and a stepwise approach (similar to the more specific Community context). Furthermore, it was stressed that emissions trading and flexibility instruments should in principle be ‘supplemental’: the main means of meeting Kyoto commitments should be provided by domestic action, as stipulated in the Kyoto Protocol. The idea and possibility of a ‘concrete, quantitative’ ceiling on all three mechanisms taken together was launched to facilitate domestic action, and the need for strict monitoring and the possibility of international sanctions, ‘even penalties’, was emphasized.10 The Commission concluded by promising to present a more complete post-Kyoto strategy in the first half of 1999, and again it was underlined that the EU would have to make demonstrable progress by 2005.11 The discussion of a possible EU ETS was taken a bit further in the May 1999 Communication Preparing for Implementation of the Kyoto Protocol.12 This was based on the conclusions of the Vienna European Council in 1998 and served as the Commission’s input to the 1999 European Council Summit held in Cologne. In Vienna, climate change had been defined as one of the most challenging environmental problems for the coming decades, and it was agreed that the Community should intensify its work on common and coordinated policies and 6 Ibid., 2, 18. 7 Ibid., 19. 8 Ibid., 20. 9 Ibid., 21. 10 Ibid., 24, 25. 11 Ibid., 29. 12 European Commission (19 May 1999), COM(99)230, Commission Communication to the Council and the Parliament. Preparing for Implementation of the Kyoto Protocol (Brussels).

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measures. Emissions were on an upward track, and more needed to be done to curb this trend. Accordingly, the focus in the May 1999 Communication was on progress in policies and measures at the Community level and possible new initiatives. This included ‘common and co-ordinated measures’, targeting sectors like transport and households; ‘fiscal incentives’, mostly focused on a possible energy products tax; ‘environmental agreements’, which were described in positive terms, but the need to conclude new ones quickly was emphasized, again with reference to the importance of making ‘demonstrable progress by 2005’.13 With regard to flexible mechanisms, it was noted that they were new and ‘fundamentally different’ from previous EU environmental policy. There was a clear need for more knowledge about the mechanisms.14 Global emissions trading would not start until 2008, and would probably not be based on particularly detailed rules and guidelines. In the meantime, ‘the best preparation for the Community and its Member States might be to develop their own trading experience’; the 1998 Communication had already launched the target date of 2005.15 This conclusion must be seen in light of the failure to define the rules for international emissions trading at the 1998 CoP in Buenos Aires.16 A possible broad consultation exercise in the year 2000 and a subsequent Green Paper were proposed. Two main themes for the Green Paper were indicated: first, the participation of private entities, which could increase cost-effectiveness but also lead to tricky issues of harmonization and competitive distortions. Second, compatibility with existing EU environmental policy was emphasized. Although both an ‘upstream’ system (targeting fossil-fuel producers and importers), and a ‘downstream’ system (targeting end-users of energy), were conceivable, the latter would be most in line with a cautious, stepwise approach. Such a system could start with large emitters or a single economic sector, and the most accurately measured gas – CO2.17 With regard to the links to the two other main flexibility mechanisms in the Kyoto Protocol – the JI and the CDM – it was noted that the CDM could start already from the year 2000. Here it was emphasized that none of the three mechanisms should be disadvantaged against the others through special fees or administration costs.18 The issue of EU enlargement was also briefly commented upon: the Community should assist the candidate countries in developing their institutional and technical capacity and raise the profile of climate policy issues with stakeholders and the public in these countries.19

13 Ibid., 8. 14 Ibid., 14. 15 Ibid., 15. 16 These rules were not finally agreed until CoP-7 in Marrakech in October 2001. 17 European Commission (19 May 1999), COM(99)230, Commission Communication to the Council and the Parliament. Preparing for Implementation of the Kyoto Protocol (Brussels), 15–16. 18 Ibid., 16–18. 19 Ibid., 20.

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But it was the Green Paper on greenhouse gas emissions trading within the European Union,20 published in March 2000, that really started to give flesh and blood to the idea of an EU Emissions Trading Scheme. The Green Paper marked the start of a broad EU consultation process. At the outset, it was emphasized that EU emissions trading should complement and be compatible with other policies.21 Although previous Communications had stressed that this instrument was new to the EU, the GP noted that there were in fact relevant earlier EU instruments – quotas for Ozone Depleting Substances, for fish catches, for milk.22 The Commission now came out more clearly in favour of involving private entities (companies) in emissions trading, seeing this as a ‘unique opportunity for cost-effective implementation’.23 With regard to the design options described in Chapter 2, the Commission first argued that a main attraction of emissions trading was that it would provide certainty as to the environmental outcome. This means that the Commission preferred a cap-and-trade system, based on a total cap on emissions from the sources covered by the system, rather than a baseline-and-credit system. Various issues related to coverage were also discussed. Although in principle the best thing would be a broad and comprehensive system covering all six main GHGs and sinks and all emission sources, there were ‘sound scientific and practical reasons’, not least related to monitoring, for not necessarily pursuing that option further, and instead restricting the scope to large fixed-point sources of CO2.24 This reflected the preference for a downstream system, as signalled back in 1999. The Large Combustion Plant (LCP) and Integrated Pollution Prevention and Control (IPPC) Directives offered useful reference points. The following sectors were suggested for initial inclusion, covering around 45 per cent of EU CO2 emissions (with electricity and heat production accounting for 30 per cent of EU CO2 emissions alone): • • • • • •

electricity and heat production iron and steel refining chemicals glass, pottery and building materials paper and printing.

It was acknowledged that member-states differed with regard to interest in emissions trading, and the possibility of ‘opt-in’ (of those most interested) and ‘opt-out’ (of reluctant member-states or particular sectors) was noted. Opt-out for member-states would in reality mean a voluntary ET system. As to the method of allocation, it was indicated that auctioning was technically preferable, and that ‘free allocation … should not necessarily be considered an easy

20 European Commission (8 March 2000a), COM(2000)87 final, Green Paper on Greenhouse Gas Emissions Trading within the European Union (Brussels). 21 Ibid., 6. 22 Ibid., 8. 23 Ibid., 9. 24 Ibid., 10.

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option’.25 With regard to compliance and enforcement, it was noted that the strength and environmental integrity of any emissions trading regime would depend largely upon its compliance provisions and a robust enforcement regime. The existence of strict penalties would have a deterrent effect: such penalties should ‘significantly’ exceed the cost of complying.26 In addition to specific design issues, the Green Paper included various aspects of harmonization between the Community and the member-states. In principle, EU emissions trading could be organized at several levels, with varying degrees of Community intervention. A trade-off was noted between providing high equality of treatment and simplicity on the one hand and high member-state autonomy on the other. The latter could lead to segregation, which would run counter to the objectives of the internal market.27 The Green Paper outlined several options concerning the ‘level of possible diversity within the Community’. A system with coverage agreed at Community level would provide optimal conditions for equal competition. In the same context of harmonization, concerning the allocation of allowances (the quantity of greenhouse gas emissions assigned to each participant in the system), an implicit plea was made for a centralized setting of the national ceilings or ‘caps’.28 A more decentralized approach would require ‘detailed and tight guidelines on how allocations are made in individual sectors and companies, and close scrutiny of every single case’. Also discussed was the synergy with other policies and measures, including the IPPC Directive, voluntary agreements, and energy taxation. With regard to the relationship between emissions trading and the IPPC Directive, the GP noted that some clarifications were required but that no major problems were envisaged.29 Summing up this phase of initiation, the first positive signals about emissions trading started to come out of the European Commission in late spring 1998. Initially the discussion was geared towards the role of the EU in relation to the global flexibility mechanisms under the Kyoto Protocol. However, it is important to note that the idea of a pilot, EU-internal scheme for emissions trading was launched already in the June 1998 Communication on an EU post-Kyoto strategy. This can be linked to the weight given in this Communication to the EU being able to show demonstrable climate policy progress by 2005, as called for in the Kyoto Protocol. Discussions of a possible internal EU emissions trading system were taken a bit further in the May 1999 Communication on preparing for the implementation of the Kyoto Protocol. As its main new element, this Communication launched the idea that such a system should initially have basically narrow coverage, targeting large 25 Ibid., 18–19. 26 Ibid., 24. 27 Ibid., 12. 28 See the statement that ‘If the Community were to agree on the quantity of emissions of the trading sectors in each Member State, possible distorting allocations to individual sectors or companies would be significantly limited’. European Commission (8 March 2000a), COM(2000)87 final, Green Paper on Greenhouse Gas Emissions Trading within the European Union (Brussels), 18. 29 European Commission (8 March 2000a), COM(2000)87 final, Green Paper on Greenhouse Gas Emissions Trading within the European Union (Brussels), 21.

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emitters or a single economic sector, and only CO2 (as noted, the most measurable gas). Issues of harmonization and degree of centralized control were floated only in general terms. These issues were then taken a significant step further in the March 2000 ETS Green Paper. Reading both the actual text and between the lines, it must be concluded that the Commission made a plea for a quite centralized and hence harmonized system for determining the crucially important emission ceilings/caps within the system, emphasizing the substantial institutional challenges that a more decentralized approach would entail. The suggested coverage of the system was in line with the 1999 Communication, but, with reference to the LCP and IPPC Directives, six sectors were now singled out, with electricity and heat production by far the largest. Decision-making: From Proposals to Directives In this section we first sum up main elements of the Commission’s ET directive proposal, launched in October 2001. The second section documents and discusses the main changes in the form and content of the Commission’s proposal which emerged from the final agreement between the Council and the Parliament at the end of June 2003. As this June agreement left the link between the EU Emissions Trading Scheme and the Kyoto flexibility mechanisms to be further specified in a subsequent amending directive, the third section sums up the main specifying elements that emanated from the agreement on the Linking Directive in April 2004. The Commission’s ET Proposal What specific design choices were made in the European Commission’s Proposal for a Directive establishing a scheme for greenhouse gas emission allowance trading within the Community and amending Council directive 96/61/EC,30 seen in light of the various options discussed in the Green Paper? Let us first note that the proposal was based on Article 175 (1) of the Treaty, which required adoption by a qualified majority in the Council and co-decision with the European Parliament.31 The proposal built on responses to the Green Paper and on extensive consultation with stakeholders. Regarding the questions of harmonization and degree of centralized control, the overall approach tended to favour decentralization. The proposal stated that ‘the quantities of allowances issued would not be harmonised’ and ‘the total quantity of allowances issued under the proposal would be left essentially to the Member

30 European Commission (23 October 2001), COM(2001)581, Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC (Brussels). 31 In contrast, the carbon/energy tax proposals had been put forward under the consultation procedure (now Article 175(2)), which requires unanimity in the Council.

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States’.32 The Commission related this to the varying emission reduction obligations in the EU Burden-sharing Agreement and differences in sources of emissions and fuel mixes in different member-states. However, the need for a certain degree of harmonization and central control was also emphasized. Member-state allocations should be based on several common criteria; these allocations should be communicated to the Commission, and could be rejected if the criteria were not observed, including also Community requirements concerning state aid.33 This meant that the individual and collective reduction ambitions would become clearer only after the process of drawing up NAPs was well underway. As we shall see in Chapter 5, the criteria constraining national allocations became subject to intense negotiations between the European Parliament and the EU member-states. Concerning coverage, a mandatory system for all member-states was proposed, with no possibilities to add or exempt sectors or installations. The proposal followed up the idea launched in the Green Paper of initially targeting only CO2, noting that this would be ‘capable of generating good quality monitoring data on a consistent basis’.34 Moreover, as also indicated in the Green Paper, only large point sources were to be included. Sectoral coverage was almost the same as in the Green Paper, but now organized in the form of four main ‘activities’: • • • •

energy; production and processing of ferrous metals; mineral industry; other activities35

The main difference from the Green Paper was that the chemicals sector was not included in this proposal. On allocation and allocation method, since the member-states would have no legally binding targets limiting GHG emissions in the pilot phase (2005 to end 2007), allowances should be allocated free of charge. Such a common approach would protect the internal market. The allocation method in future commitment periods would be decided on the basis of a June 2006 review of experiences.36 Initial

32 European Commission (23 October 2001), COM(2001)581, Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC (Brussels), 5, 11 33 Ibid., 5–6, 11. 34 Ibid., 9. 35 ‘Energy activities’ included combustions installations with a rated thermal input exceeding 20MW, mineral oil refineries, and coke ovens. ‘Production and processing of ferrous metals’ included metal ore and installations for the production of pig iron or steel. ‘Mineral industry’ included installations for the production of cement clinker, installations for the manufacture of glass, and installations for the manufacture of ceramic products. ‘Other activities’ included industrial plants for the production of pulp and paper and board. See Annex I of the proposal (p.32). 36 European Commission (23 October 2001), COM(2001)581, Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse

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allocations should be based on the ET Directive and the aforementioned criteria and the 1998 Burden-sharing Agreement. Compliance and enforcement guidelines were put forward, and it was proposed to leave it to the discretion of member-states whether emissions verification should be done by their competent authorities or through independent verifiers. In the pilot phase, a penalty for non-compliance of €50 (or twice the average market price) per ton CO2 emitted above allocated quantity was suggested; this penalty increasing to €100 in the first Kyoto Protocol commitment period.37 New issues were also included in the proposal. The proposal suggested that member-states should be free to decide whether to allow banking of allowances from the period ending in 2007 and that starting in 2008. As from 2008, however, it was suggested that they should be required to allow ‘banking’ of allowances from one five-year period to the next.38 The Commission did not want to stipulate how the market in emissions allowances was to be organized; this was to be left open to solutions driven by the private sector.39 Links with other emissions trading schemes and renewable certificates were generally welcomed. Concerning the links to flexibility mechanisms under the Kyoto Protocol, their eventual inclusion was desirable, on condition that outstanding issues regarding their environmental integrity could be solved. However, due to uncertainty about the rules of these mechanisms, a separate subsequent linking proposal was suggested.40 Agreement between the Council and the Parliament As will be specified and discussed in Chapter 5, the further main dynamics of the decision-making process unfolded as follows: the European Parliament started its first reading process in the spring of 2002 and adopted its plenary position on 10 September 2002. Some 80 suggested amendments to the directive proposal were adopted, involving significant changes to the coverage and the allocation mechanism of the system. This was followed by discussion on and adoption of a Council Common Position on the ET Directive on 9 December 2002. Here a main outcome was that the Council chose to uphold the body of the Commission’s proposed design. The second reading process then started in late spring of 2003, and the Parliament’s Environment Committee adopted its main position on 11 June 2003. The Committee decided to re-table 25 of the amendments put forward in the first reading process, singling out four especially central issues, including a substantial broadening of Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC (Brussels), 11. 37 Ibid., 14. 38 Ibid., 12. Banking means to carry over allowances from one commitment period to the next. 39 European Commission (23 October 2001), COM(2001)581, Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC (Brussels), 16. 40 Ibid., 17. The Marrakech agreement between the UNFCCC parties on the international flexible mechanisms was concluded shortly after the Commission proposal.

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the coverage of the scheme and a significant portion of auctioning. The plenary discussion and vote in the Parliament were scheduled to take place in the beginning of July. However – and this clearly signified the urgency surrounding this issue, and reflected hopes from all sides that the potentially long conciliation procedure could be avoided – negotiations between the EP and the Council were initiated rapidly after the vote in the Environment Committee, with a deadline of 20 June. Following compromise proposals tabled on 23 June by EU member-state representatives, the negotiations were crowned with success on 25 June and formalized in a subsequent process in July. The Parliament accepted the outcome of the negotiations in plenary on 2 July, also adopting 17 amendments, mostly minor clarifications.41 Only four votes were cast against the ET Directive at this final reading in Parliament (Vis 2006a, 40). On 18 July 2003, the Commission expressed its formal opinion on the outcome, discussing and – probably not so surprisingly – accepting the 17 amendments adopted by the Parliament on 2 July.42 The Council formally adopted the directive on 22 July 2003. As the final step in this part of the story, the ET Directive became formal EU law when it was published in the EU Official Journal on 25 October 2003.43 Let us now turn to the main outcome and the extent to which the Commission proposal was upheld or altered. Starting with the issue of harmonization and degree of centralized control, the final outcome was generally in line with the Commission proposal, with a fundamentally decentralized approach to setting emission caps (see Article 9 in the ET Directive). However, unlike the Commission proposal, the criteria for national allocation plans were specified in Annex III of the Directive. In particular it was stipulated in the first criterion that, prior to 2008, the total quantity of allowances to be allocated should be consistent with a path towards achieving or over-achieving each member-state’s EU Burden-sharing Agreement or Kyoto Protocol target. The 10 new member-states that joined the EU as of 1 May 2004 were not parties to the 1998 Burden-sharing Agreement, but had obligations under the Kyoto Protocol. As to coverage, the Commission proposed a quite narrow and limited initial system, targeting only CO2 and with ‘energy activities’ representing by far the main part of regulatory action. Again, overall, the final outcome was very much in line with the Commission proposal, with the ‘activities’ and greenhouse gases lists (provided 41 European Parliament (2 July 2003), Greenhouse Gas Emission Allowance Trading, European Parliament Legislative Resolution on the Council Common Position with a View to Adopting a European Parliament and Council Directive Establishing a Scheme for Greenhouse Gas Emissions Allowance Trading within the Community and Amending Council Directive 96/61/EC (15792/2002-C5-0135/2003-2001/0245 (COD), P5_TA(2003)0319. 42 European Commission (18 July 2003), COM(2003)463 final, Opinion of the Commission pursuant to Article 251 (2), third subparagraph, point (c) of the EC Treaty, on the European Parliament’s amendments to the Council’s common position regarding the proposal for a Directive of the European Parliament and of the Council establishing a scheme for greenhouse gas emission allowance trading within the Community and amending Council Directive 96/61/EC (Brussels). 43 ENDS Daily (30 October 2003), ‘EU Emissions Trading Law Enters into Force’, Issue 1542.

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in Annex I and II of the Directive) virtually identical to those in the proposal from the Commission. It also outlined a mandatory system, with no explicit loopholes that would allow exempting or adding installations or sectors. However, a first change was an opening up for a temporary (in the pilot phase) exemption or opt-out of ‘certain installations’, on specified conditions (Article 27). A second change was the opening up for unilateral inclusion of additional activities (‘opt-in’) in Article 24. In the pilot phase, member-states were permitted to individually extend the EU ETS to installations below the capacity limits set in the Directive. From 2008, broader possibilities for individual extension were indicated, both to installations below the established capacity limits and not even included in Annex I to the Directive – however, on specified conditions and overseen by the Commission. A third change was the opening up for ‘pooling’ of installations (Article 28). Member-states could allow operators of installations carrying out one of the relevant activities covered by the Directive to form a group/pool of installations from the same activity, and nominate a trustee to be responsible for surrendering allowances and be subject to possible penalties. Finally, a slight change in relation to the proposal was that three sectors – chemicals, aluminium and transport – were mentioned as specific candidates for future inclusion in the system, to be further discussed in a review report to be submitted to the Commission by 30 June 2006 (Article 30, 2). As to the issue of allocation and allocation mechanism, the Commission basically proposed that allowances should be allocated free of charge, and the June 2006 review was to re-think the allocation method in future commitment periods. The final outcome was a slightly modified version of the Commission proposal, with at least 95 per cent of the allowances to be allocated free of charge prior to 2008 and at least 90 per cent thereafter (Article 10). With regard to compliance and enforcement, as a central element the Commission had proposed a penalty for non-compliance of €50 (or twice the average market price) per ton CO2 emitted above allocated quantity in the pilot phase, increasing to €100 in the first Kyoto Protocol commitment period. The final outcome was again a slightly modified version of this proposal. Two slight changes can be noted in the formulation of Article 16: the penalty level in the pilot phase was adjusted down to €40; and the possibility of a more flexible alternative penalty level linked to the average market price was removed. Finally, as to the external links to the Kyoto flexibility mechanisms, the Commission proposal merely noted that their eventual inclusion was desirable, but due to uncertainty about the rules of these mechanisms, a separate subsequent linking proposal was suggested. The final outcome supported this basic sequencing of the process. However, Article 30 also contained a certain further specification of the nature of the link, by emphasizing that the use of the mechanisms should be supplemental to domestic action. How the link to the Kyoto mechanisms was further specified in the subsequent Linking Directive is summed up in the next section. The final political agreement on the EU Emissions Trading Scheme shows that the main shape and content of the proposed directive remained intact through the complicated EU decision-making process. However, it also shows that various interests were able to affect the final outcome of the ET Directive, including ‘opt-

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in’ and ‘opt-out’ clauses, pooling, and a reduced penalty level of €40. A core task in Chapter 5 is to examine which actors and institutions affected the final outcome, how they did so, and why. The Linking Directive On 23 July 2003, only a day after the Council of Ministers rubber-stamped the main ET Directive, the Commission presented its proposal for a linking directive.44 As indicated, the objective of this directive was to specify the link between the EU Emissions Trading Scheme and the other two flexible mechanisms born out of the Kyoto Protocol – the JI and the CDM.45 There were many reasons why the Commission had omitted the question of linking from its 2001 ET directive proposal. In addition to incomplete international rules for the flexible mechanisms, a perhaps more important reason for not including a link in the ET Directive was that the ETS was intended as a domestic measure, and many argued that a link would compromise this intent. Furthermore, it was felt that a link might jeopardize the adoption of an ET directive altogether, because of the very differing views on the project mechanisms (Lefevere 2006, 122). The proposal for a separate linking directive contained the following main features related to cap, timing and restrictions:46 •





A review of the imports of JI/CDM credits should take place once it reached 6 per cent of the total quantity of member-states allowances. A final cap could be set at ‘for example 8%’. It was suggested that the Directive should be dependent on the Kyoto Protocol entering into force. This meant waiting until the first Kyoto commitment period (beginning in 2008), before any CDM credits could be actually used. Neither sinks (i.e. forestry projects) nor nuclear power should be included as eligible projects. Hydropower was recognized as a legitimate source for projects, as long as such projects took account of ‘environmental and social impacts’.47

44 European Commission (23 July 2003), COM (2003)403, Commision Proposal for a Directive of the European Parliament and of the Council amending the Directive establishing a scheme for greenhouse gas emission allowance trading within the Community, in respect of the Kyoto Protocol’s project mechanisms (Brussels). Available at accessed 22 May 2007. 45 It should be noted that an indirect link between the ETS and the project mechanisms already existed: During the Kyoto period 2008–12, member-states would be able to buy CDM and JI credits in order to meet their Kyoto commitments. The Linking Directive would, however, provide a direct link, allowing business entities operating within the ETS to buy such credits themselves (see Lefevere 2006, 129). 46 Besides the ones listed, the proposal contained other important points as well, such as the issue of avoiding double counting of credits, and the inclusion of ‘national project activities’. Space limitations prevent us from taking all these issues into account here. 47 European Commission (23 July 2003), COM (2003) 403, pp. 7–11, Commision Proposal for a Directive of the European Parliament and of the Council amending the Directive

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The proposal, however, gave rise to a storm of protests. On the one side stood industry, wanting minimal restrictions on the linking; on the other stood environmental organizations, fearing that the Linking Directive would leave Third World countries with a bad deal and the globe with a deteriorated climate. Among EU member-states views were varied, leading to lively discussions in the Council and the European Parliament. Main disputes centred on timing, the quantitative cap and the qualitative restrictions. On 5 April 2004, the Parliament’s Rapporteur, the Irish Presidency and the Commission reached informal agreement on a compromise package, reflecting a trade-off between the quantitative provisions (the cap) and the qualitative provisions (sinks and hydropower): •

• •

Gone was the stipulated, common cap. Limits would be ‘specified by each Member-state’ (Article 11a). However, in section 7 of the directive, it was repeated that the use of the mechanisms should be supplemental to domestic action and should also constitute ‘a significant element of the effort made’. The Directive was no longer dependent on the Kyoto Protocol entering into force, and CDM credits could be used from January 2005 (Section 5). Nuclear projects and sinks were excluded only temporarily. Nuclear projects were explicitly excluded in the pilot phase and Kyoto commitment period, leaving it open what would happen thereafter (Article 11a, section 3a). With regard to sinks, their possible inclusion already in the Kyoto commitment period would be reconsidered in 2006 (Section 9). Only with regard to hydro projects was there a clearer regulation than in the original proposal. Hydropower projects with capacity over 20MW would have to comply with the rules set by the World Commission on Dams (Article 11b, section 6).

The Council and Parliament formally adopted the Directive on 27 October 2004.48 A core question in Chapter 5 will be why and how these significant changes were made in the European Commission’s proposal for a linking directive.

establishing a scheme for greenhouse gas emission allowance trading within the Community, in respect of the Kyoto Protocol’s project mechanisms (Brussels). Available at accessed 22 May 2007. 48 European Parliament (27 October 2004), Directive 2004/101/EC of the European Parliament and of the Council of 27 October 2004 amending Directive 2003/87/EC Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms. Only France and Austria opposed the deal.

Table 3.1

Main changes in the European Commission’s proposals for ET and Linking Directives

Commission proposal for the EC Directive

Commission proposal for Linking Directive

Harmonisation Coverage Allocation and centralisation Decentralized setting Start with CO2only and Free of charge four targeted activities allocation in pilot of emission caps phase; next phase Opt-in of additional to be decided in sectors and activities 2006 review from 2008 on

Compliance and enforcement Penalty: either €50 (pilot phase)/ €100 (Kyoto phase) or twice the average market price – ‘whichever is higher’

Changes in the final Directive: (2003/87/EC)

Links to the Kyoto Protocol –Quantitative cap on imports of JI/CDM credits; – Use of credits only from 2008 – No credits from sinks or nuclear power projects – Large hydro-projects to take social and environmental impact into account Changes in the final Directive: 2004/101/EC

Specification that National Allocation Plans should be consistent with ‘Kyoto path’ (Annex III)

Opening up for opt-out of individual installations in the pilot phase (Art.27) – Unilateral optin of additional activities (Art. 24) – Opening up for pooling of installations (Art.28) – Chemicals, aluminium and transport sectors candidates for further inclusion (Art.30, 2)

At least 95% free of charge in pilot phase; at least 90% in Kyoto phase (Art.10)

Penalty adjusted down to €40 in pilot phase – Reference to alternative ‘twice market price’ deleted (Art.16)

2004/101: – No cap, but supplemental to domestic action. Further limits to be specified by each Member-state (Art.11 a) –CDM credits to be used from 2005 on (Section 5) –Sinks and nuclear excluded only temporarily –Large hydro-projects to comply with stricter rules (WCD) (Art.11b, 6)

Development of the EU ETS

49

Summary of Changes from Proposals to Directives Table 3.1 provides a snapshot overview of the relationship between European Commission proposals and the ET Directive (2003/87/EC)49 and the Linking Directive (2004/101/EC).50 Implementation: From Directive to Practice Implementing the Emissions Trading Scheme includes several issues. As summed up by Mullins (2005, 183), key tasks for the member-states include: • • • • • •

prepare National Allocation Plans (NAPs); identify, obtain data from and consult the installations that are covered by the scheme; decide on banking, and new entry and closure rules; prepare their permitting procedures; provide guidance on monitoring and verification and establish the relevant institutions; prepare and set up national allowance registries.51

All these six tasks are important for the functioning of the EU ETS, but the production of NAPs is the key element from a policy perspective, as it determines the environmental ambitiousness of the system. National Allocation Plans (NAPs) As noted earlier, one of the main outcomes and features of the EU ETS was a basically decentralized approach to the setting of national emission ceilings (caps). Hence, a key instrument for implementing the EU ETS became the production of National Allocation Plans, starting on 25 June 2003, when political agreement was obtained on the ET Directive. This Directive contained many important NAP principles and signals – particularly Annex III, with 11 guidance points and criteria for the development of NAPs:

49 European Parliament (25 October 2003), Directive 2003/87/EC of the European Parliament and of the Council of 13 October 2003 Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community and Amending Council Directive 96/61/EC, Official Journal of the European Union L 275, 32–46. 50 European Parliament (13 November 2004), Directive 2004/101/EC of the European Parliament and of the Council of 27 October 2004 Amending Directive 2003/87/EC Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms, Official Journal of the European Union L 338, 18–23. 51 For an instructive introduction to the monitoring and reporting guidelines and the registries regulation, see Hartridge 2006.

EU Emissions Trading

50

1. consistency between total quantity of allowances and the member-states’ commitments under the Kyoto Protocol; 2. consistency between quantity of allowances and assessments of emissions development; 3. consistency between quantity of allowances and potential to reduce emissions; 4. consistency with other Community legislative and policy instruments; 5. non-discrimination between companies or sectors; 6. information on the treatment of new entrants; 7. information on how early action would be taken into account; 8. information on how clean technology would be taken into account; 9. information on how the public would be involved; 10. list of installations and their respective allowances; 11. how competition from outside the EU would be taken into account. Furthermore, Article 9 established an assessment procedure where submitted NAPs were to be scrutinized by the European Commission. The right to not approve parts or the whole of the NAP plans was established for cases where these were found to be not in line with the ET Directive or the Treaty. Inevitably, these criteria were couched in quite general terms, and the need arose for a more specific guidance document. In early January 2004, the Commission published a Communication aimed at clarifying the criteria.52 Among other things, this document specified that four of the 11 criteria were to be considered as mandatory (assessments of emissions development; non-discrimination; public involvement; and list of installations). Three criteria were in a grey zone, involving a mandatory element (consistency with Kyoto; potential to reduce emissions; and consistency with other legislation). Finally, there were four optional criteria (new entrants; early action; clean technology; and outside competition).53 As indicated in Chapter 2, within these numerous implementation criteria, the most important and overriding goal was that implementation should be ambitious. We will also assess timeliness, for reasons to be specified below. Let us then briefly elaborate these two goals. Timeliness and Ambitiousness Timeliness was important not only in order to get the market going and deliver emission reductions: it was also politically important to demonstrate the realism in the EU’s declared ambitions of leadership in global climate diplomacy – to show progress by 2005 in accordance with the Kyoto Protocol (Wettestad 2005). On a more pragmatic note, within this complex multi-level, multi-issue and multi-state 52 European Commission (7 January 2004), COM(2003)830 final, Communication from the Commission on Guidance to Assist Member States in the Implementation of the Criteria Listed in Annex III to Directive 2003/87/EC (Brussels). 53 The Communication stated that ‘ can choose whether it wants to take specific action with respect to some of the criteria 1, 3 and 4, and the criteria 6,7 and 8’ (Ibid., 3, our emphasis).

Development of the EU ETS

51

subject matter, this criterion is fairly simple to measure. With regard to preparation of NAPs for the EU ETS pilot phase (2005–07), the formal deadlines were 31 March 2004, for the old EU-15; and 1 May 2004, for the new EU-10 – that is, the Central and Eastern European Countries (CEECs), as well as Malta and Cyprus. Moreover, the installation-level allocation was to be determined at least three months before the beginning of the first period (in other words, before October 2004).54 The deadline for all countries for preparing the NAPs for the second phase of the EU ETS (the Kyoto commitment phase, 2008–12) was 30 June 2006. The criterion of ambitiousness is clearly the most important from an environmental perspective. Unless emission caps can be set far enough below the business-as-usual needs of industries to lead to a scarcity of allowances (and hence drive allowance prices high and stable enough to warrant investments in abatement efforts), the overall objective of the emissions trading scheme – to promote reductions of greenhouse gas emissions – will simply not be met.55 However, measuring the ambitiousness of the implementation in the NAP context is no straightforward task. At least three important points must be kept in mind. First, the EU ETS covers around 45 per cent of EU CO2 emissions: the focus is on relatively large installations within certain sectors, and includes the important power and heat sector. The Kyoto Protocol and the EU’s commitment within the Kyoto framework cover six main greenhouse gases and most societal sectors (but not, for example, aviation). Hence the real and full climate policy ambitiousness and performance of the EU countries is to a considerable extent determined by their efforts in relation to sectors and gases not covered by the ETS. Second, EU countries vary with respect to both the targets agreed on within the EU Burden-sharing Agreement and their progress so far in relation to these targets. Hence, the need for governments to squeeze the part of industry covered by the ETS varies between the countries. Third, the basically decentralized ETS approach and the related flexibility in the guidelines for developing NAPs mean that countries have chosen and utilized somewhat differing baselines, and have treated issues such as new entrants in differing ways (see for example CEPS 2005), further complicating inter-country comparisons. With regard to the pilot phase, there were prescriptions for a certain ambitiousness in the setting of total emission caps. As indicated, the ET Directive and the Commission’s 2004 guidelines prescribed several criteria for the overriding goal of ambitiousness – most importantly that the allocation was to be consistent with a path to the Kyoto target, and the total quantity of allowances to be allocated should not be more than necessary in view of projected emissions. Of these two, we will argue that the relationship between the total cap and projected emissions would be the central indicator of whether pilot-phase NAPs should be considered ambitious, as this would indicate the actual emission reductions to result from implementation of the EU ETS. With regard to the NAPs for the second ETS phase (2008–12), in its Communication published in late December 2005 the Commission indicated that if 54 The October 2004 deadline was stated in Article 11 in the 2003 ET Directive. 55 As noted by Vis (2006b, 188): ‘Only if there are fewer allowances than there would be emissions in the absence of a trading scheme will there be any environmental added value’.

52

EU Emissions Trading

the emissions trading sector were to contribute a proportionate share of the reduction needed in member-states with a gap to close in order to reach the Kyoto target, then the overall cap for the second phase should be 6 per cent lower than in the pilot phase.56 Allocations to any member-states that were off-track from their Kyoto target in comparison with actual 2003 emissions should be further tightened.57 With regard to the latter, and as an additional criterion that did not apply in the first phase, member-states were required to specify a maximum amount of intended government purchase of Kyoto units. Described by the Commission as criterion 12 in Annex III of the ET Directive (although the Directive initially contained only 11 criteria), the established percentage should be consistent with the state’s supplementarity obligations under the Kyoto Protocol and decisions adopted pursuant to the UNFCCC or the Kyoto Protocol.58 This was further specified in the Communication accompanying the first round of Commission NAP II decisions in late November 2006.59 To determine the more specific required reduction, the proportion of the overall emissions represented by the trading scheme was relevant ‘in comparison with emissions from sources not covered by the Directive’.60 As a minimum threshold, installations should be allowed to use JI/CDM credits up to a level of 10 per cent. The practical implications of all these elements were then summed up in specific formulas.61 Furthermore, as further elaborated later in this chapter, the first verified ETS emission figures, summing up 2005 emissions, were put on the table in May 2006. The publication of these figures changed the NAP II process somewhat. In November 2006, it became clear that in addition to the earlier announced criteria, also the 2005 emission data would figure as a central assessment criterion. Hence, the 29 November press release stated that the Commission would be requiring changes 56 European Commission (22 December 2005), COM(2005)703 Final, Communication from the Commission: Further Guidance on Allocation Plans for the 2008 to 2012 Trading Period of the EU Emissions Trading Scheme (Brussels), 6. 57 These states should aim for a balanced mix between lowered allocation for second phase; implementing additional measures in the non-trading sector; and ‘potentially supplemented’ by government purchase of Kyoto unit credits (Ibid., 6). 58 Ibid., 7. 59 A key statement was here: where a Member-state with a remaining gap to close between its actual emissions and allowed emissions according to the Kyoto target does not substantiate or insufficiently substantiates the intended government purchase of Kyoto units this contravenes criterion 1 (setting a cap consistent with each Member-state’s Kyoto Protocol commitment), and as a consequence the intended total quantity of allowances is reduced proportionally. European Commission (29 November 2006), COM(2006)725 final, Communication from the Commission to the Council and to the European Parliament on the Assessment of National Allocation Plans for the Allocation of Greenhouse Gas Emission Allowances in the Second Period of the EU Emissions Trading Scheme, Accompanying Commission Decisions of 29 November 2006 on the National Allocation Plans of Germany, Greece, Ireland, Latvia, Lithuania, Luxembourg, Malta, Slovakia, Sweden and the United Kingdom in Accordance with Directive 2003/87 (Brussels), 7. 60 Ibid. 61 Ibid., 7, 10.

Development of the EU ETS

53

to NAPs where ‘the proposed total of allowances is not consistent with expected emissions and the technological potential to reduce emissions, taking into account independently verified emissions in 2005, anticipated changes in economic growth and carbon intensity’ (our italics).62 Hence, the Commission had now explicitly spelled out its procedure and ‘formula’ for NAP II assessments, in fact drawing upon only very limited information from the submitted NAPs (primarily related to additional installations).63 This meant that the Commission, quietly and almost unnoticed, had introduced a more centralized model for the setting of caps. Let us then sum up some main outcomes of the first two EU NAP processes, assessing them in relation to timeliness and, especially the key dimension of ambitiousness. We will seek to provide both a rough overview of the complete picture as to implementation outcomes, while also drawing attention to some interesting national variations. Producing NAPs for 2005-07 (NAP I) Timeliness: many delays, but still variation As mentioned, there were three main deadlines in 2004: 31 March for EU-15; 1 May for the new EU-10; and 1 October for all (the installation-level allocation). The UK started strong and published its draft NAP as early as 19 January 2004,64 but nevertheless failed to meet the 31 March deadline for the EU-15 countries. Only five countries met the deadline (Austria, Denmark, Finland, Germany and Ireland), which meant that two out of three missed the deadline.65 Only Slovenia met the 1 May deadline for the new members.66 At this point, three more countries from the EU-15 had delivered (Luxembourg, the Netherlands and Sweden), bringing the total to eight – which, however, meant that almost half of the plans were still missing.67 By mid-June, the NAP process was said to be ‘grinding to a halt’.68 Although the UK had finally submitted its NAP to Brussels (raising the total number of ‘old-timer’ NAPs to nine), Spain and two others still had not published their drafts, two and a half months after the deadline. Of the new members, Estonia and Latvia had joined the submitter group, so half of the CEECs had formally delivered. Big-emitter Poland

62 Ibid. 63 The formula is: 2005 verified emissions * growth trend development 2005 to 2010 * carbon intensity trend development 2005 to 2010 * additional emissions covered by an extended scope of combustion installations. Ibid., 5. 64 ENDS Daily (19 January 2004), ‘UK Takes Pole Position in EU Carbon Trading Race’, Issue 1590. 65 EU Energy (9 April 2004), ‘Two Out of Three Miss Emissions Allocation Plan Deadline’, Issue 80, 1. 66 EU Energy (7 May 2004), ‘Slovenia Only New EU Member to Meet NAP Deadline’, Issue 82, 1. 67 International Environment Reporter (5 May 2004), ‘EU Countries Face Liability for Delay in Submitting Emissions Trading Plans’, 27:9, 343. 68 Point Carbon (18 June 2004), ‘NAP Progress Grinding to a Halt’, Point Carbon, Carbon Market Europe, 3.

54

EU Emissions Trading

was lagging behind, not even having published a draft at this point.69 This meant that plans from only eight countries were included in the Commission’s first NAP verdict round in early July: Austria, Denmark, Germany, Ireland, the Netherlands, Slovenia, Sweden and the UK. All plans were approved, albeit only conditionally for Austria, Germany and the UK. The third main deadline in this process was 1 October 2004, when installationlevel allocations were to be completed. Several prominent member-states failed to meet this deadline – Germany, for instance, did not publish its full installation-level NAP until January 2005. The Czech Republic, Hungary, Italy, Poland, and Spain were also delayed with their detailed installation-level NAPs.70 Here, however, the UK was a notable exception, publishing its installation-level NAP already in July 2004. In sum, there were significant delays among both old and new EU member-states, but with some variations. Germany and the UK performed reasonably well (although the European Commission’s requests for adjustments prolonged the processes). Spain must be put down as a clear laggard. Within the group of new member-states, big emitters like the Czech Republic and Poland were also considerably delayed, with Poland as perhaps worst offender within the EU. Ambitiousness: murky, but on the low side As a starting point, we will sum up some main conclusions from several independent NAP ambitiousness assessment efforts.71 On the whole, none of these reports was particularly impressed by the ambitiousness of the pilot-phase NAPs. As early as August 2004, a Swedish research group at the IVL institute, led by Lars Zetterberg, analysed 12 NAPs72 and concluded: generally most countries have allocated generously to the trading sector. The allocation has often been based on future needs. For most sectors the allocation is higher than current emissions. Many countries will have to make large reductions in the nontrading sector and/or buy credits through JI and CDM projects in order to fulfill their commitments according to the EU burden-sharing agreement of the Kyoto Protocol. In many of the allocation plans the emission reducing measures in the non-trading sector is poorly described and the credibility of the measures are hard to determine’ (Zetterberg et al., 2004, 1; emphasis added).

The NAP assessment report produced by the German Ecofys institute was also published in August 2004. Although with some exception the set caps were assessed to be below expected business-as-usual (BAU) emissions, ‘the caps imposed on the 69 Ibid. 70 However, the Czech Republic, Hungary, Poland and Spain delivered in the course of October. 71 Zetterberg et al., 2004; Grubb et al., 2005; CAN (2006), ‘National Allocation Plans 2005-7: Do They Deliver?’, CAN Europe, April; Ecofys (August 2004), Analysis of the National Allocation Plans for the EU Emissions Trading Scheme (Utrecht, NL: Ecofys). 72 The NAPs assessed were those of Austria, Denmark, Finland, Germany, Ireland, Lithuania, Luxembourg, the Netherland, Sweden, the United Kingdom, as well as Belgium Flanders (draft) and Portugal (draft).

Development of the EU ETS

55

EU ETS participants are less strict than would be required if these sectors were to make an equal contribution to meeting Kyoto as other sectors, or if no use of the Kyoto mechanism was envisaged’ (Ecofys, 2004, iv; emphasis added). Furthermore, eight out of 18 countries had not provided sufficient information in their NAPs to assess the cap and compare it with business-as-usual developments, making it ‘difficult to draw firm conclusions about the environmental additionality of the EU ETS’ (Ibid.).73 Published about a year later, the assessment carried out by a group of British researchers led by Michael Grubb compared the total pilot-phase allocations against historical emissions, projections, and national Kyoto targets, and noted that ‘most Phase 1 allocations are excessive on all these measures, particularly the last’ (Grubb et al., 2005, 127). Compared to recent emissions, only Germany and Slovenia had not allocated more than they were currently emitting. Compared to official BAU projections, many allocations were in line with or almost as high as BAU projections. Compared to Kyoto targets, in contrast to a perceived necessary cut of about 3 per cent, there was an increase of 3 to 9 per cent allocated for 2005–07 (ibid., 128–129). So Grubb et al. ended up by concluding that ‘even if the BAU projections are taken at face value, the collective picture is one of weak allocations’ (ibid., 130; emphasis added). The most recent pilot phase NAP assessment of which we are aware was published by Climate Action Network Europe in April 2006. Here it was noted that of 25 countries, only Germany and the United Kingdom had asked the participating industry sectors to reduce their emissions over historic levels (based on the information provided for respective base years, mainly 2000–2002). Hence, the main conclusion here echoed the earlier critical assessments: ‘considering that around half of the EU25 countries are not on track to meet their Kyoto Protocol emission targets, such lax implementation of the ETS is a major disappointment and a worrying precedence for 2008–12’ (emphasis added).74 In sum, although these assessment reports vary somewhat with regard to approach, methodology and fine-print conclusions, they basically agree on an overall low ambitiousness score for the pilot-phase NAPs, regardless of whether these are judged on past emissions, future projections, or distance to Kyoto targets. With regard to top EU emitters more specifically, Germany, Spain and the UK seemed to come out moderately well. Due to its delayed and drawn-out process, Poland was not included in the IVL and Ecofys assessments, but was indicated as having a comparatively weak cap in the two later assessments. Table 3.2 displays the allocation data for the first trading period, showing the relative contribution to the scheme among member-states.

73 The NAPs assessed in this report were those of Austria, Belgium, Denmark, Estonia, Finland, France, Germany, Ireland, Latvia, Lithuania, Luxembourg, the Netherlands, Portugal, Slovenia, Spain, Sweden, and the United Kingdom. 74 CAN (2006), ‘National Allocation Plans 2005-7: Do They Deliver?’, CAN Europe, April, 5.

EU Emissions Trading

56

Table 3.2

Distribution of allowances under the ETS 2005–07

Germany UK Poland Italy Spain France Czech Republic Netherlands Greece Belgium Finland Portugal Denmark Austria Hungary Slovakia Sweden Ireland Estonia Lithuania Slovenia Latvia Luxembourg Total

CO2 allowances in million tonnes

Share in EU allowances (%)

1497.0 736.0 717.7 697.5 523.7 469.5 292.8 285.9 223.2 188.8 136.5 114.5 100.5 99.0 93.8 91.5 68.7 67.0 56.8 36.8 26.3 13.7

22.8 11.2 10.9 10.6 8.0 7.1 4.4 4.3 3.4 2.9 2.1 1.7 1.5 1.5 1.4 1.4 1.1 1.0 0.9 0.6 0.4 0.2

Installations covered 1849 1078 1166 1240 927 1172 435 333 141 363 535 239 378 205 261 209 499 143 43 93 98 95

10.0

0.2

19

6572.7

100.0

11,536

Source: Based on Delbeke (2006, 8–9).

When the first verified EU ETS emission figures (for 2005) were announced in midMay 2006, it was tempting to interpret these figures as further confirmation that the ambitiousness in this round was rather low.75 In essence, CO2 emissions were about 80 million tonnes or 4 per cent lower than the number of allowances distributed to installations in order to cover 2005 emissions. Seventeen countries were on the ‘long side’ (with more permits than needed), with Lithuania topping the list and around 50 per cent long, and four countries around 25 per cent long (Denmark, Estonia, Finland and Latvia). The important emitters Germany and Poland were respectively 4.2 per cent and 12.8 per cent long. Only five countries were on the ‘short side’: Greece (–0.2 per cent), Italy (–4.4 per cent), Spain (–6.3 per cent), Ireland (–16.4

75 Ellerman and Buchner, 2006; European Commission (15 May 2006), IP/06/612, EU Emissions Trading Scheme Delivers First Verified Emissions Data for Installations (Brussels).

Development of the EU ETS

Table 3.3

NAP I 2005 allocations and verified emissions Allocation 2005 Emissions 2005 Mt CO2 Mt CO2

Germany Poland Italy UK Spain France Czech Republic Netherlands Greece Belgium Finland Denmark Portugal Austria Slovakia Hungary Sweden Ireland Estonia Lithuania Slovenia Latvia Luxembourg Total

57

Difference Mt CO2

Difference percentage (%)

495.0 235.6 215.8 206.0 172.1 150.4 96.9 86.5 71.1 58.3 44.7 37.3 36.9 32.4 30.5 30.2 22.3 19.2 16.7 13.5 9.1 4.1 3.2

474.0 205.4 225.3 242.5 182.9 131.3 82.5 80.4 71.3 55.4 33.1 26.5 36.4 33.4 25.2 26.0 19.3 22.4 12.6 6.6 8.7 2.9 2.6

20.9 30.1 –9.5 –36.4 –10.8 19.1 14.5 6.1 –0.1 3.0 11.6 10.8 0.5 –1.0 5.2 4.2 3.0 –3.2 4.1 6.9 0.4 1.2 0.6

4.2 12.8 –4.4 –17.7 –6.3 12.7 14.9 7.1 –0.2 5.1 25.9 29.0 1.3 –3.0 17.2 13.9 13.3 –16.4 24.6 51.1 4.6 29.9 19.4

2087.9

2006.6

81.3

3.9

Source: Ellerman and Buchner (2006, 3).

per cent), and the UK (–17.7 per cent) (Ellerman and Buchner 2006). The complete picture is presented in Table 3.3. There is a somewhat complex and indirect relationship between NAP ambitiousness and these figures. As noted by Ellerman and Buchner (2006, 10), a ‘short’ position could be due to higher levels of economic activity than predicted, or other unexpected events (for example, high natural gas prices), so the basic NAP approach of the government in question could still be sound. For example in the case the UK, one reason that has been indicated for the UK’s ‘short’ position in 2005 is a shift to greater use of coal for power generation as gas prices have risen while coal prices have been static or falling.76 Hence, despite this complexity, the emissions figures further strengthened suspicions of Poland’s rather lenient approach to handing out allowances, in contrast to a seemingly more sound and sobering British approach. 76 EU Energy (2 June 2006), ‘Emissions Prices Plunge as EU Emits Less than Expected in 2005’, Issue 134, 9.

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The publication of these data also sent shock waves into the until then surprisingly floundering allowance trading market, leading to a steep price drop for allowances in the pilot phase – from a top level of around €30 per tonne CO2 in late April 2006 down to around €12 in early May and further down in the spring of 2007, hitting a low point at €0.5 in the end of April. We will come back to possible explanations for this ‘over-allocation’, related lacking scarcity in the market, and apparently low, but varying ambitiousness in Chapter 6. Producing NAPs for 2008-12 (NAP II) The deadline for all member-states for preparation of NAPs for the second phase of the EU ETS was 30 June 2006. However, by this date only two NAPs had been delivered to the Commission: those of Estonia and Germany.77 By mid-July, four additional NAPs had been submitted: from Ireland, Lithuania, Luxembourg and (interestingly, in light of its NAP I lateness) Poland.78 In the beginning of August, the Commission then sent letters of formal notification to 15 states that had failed to submit NAPs.79 After that, more NAPs gradually trickled in, including the British one in late August. However, by the end of October 2006, four months after the deadline, 10 NAPs were still lacking, including those from the Czech Republic, Italy and Spain. With regard to the crucial issue of ambitiousness, the overall picture at this point was not encouraging. On 22 October, EU environment commissioner Stavros Dimas noted that ‘much to my regret, taking the first 17 notified national allocation plans, they propose a cap about 15 per cent above actual emissions in 2005’.80 This statement also made it clear that the Commission would use the verified 2005 emissions data as a key measuring rod in assessing the NAPs. Several independent assessments also painted a rather bleak picture. A study carried out by Climate Strategies concluded that ‘if currently proposed phase II NAPs were approved, prices would tend to be very low and only small volumes of CDM/JI would enter the EU ETS’. Taking no account of CDM/JI, there was a 15 per cent chance that the price of carbon would fall to zero, this chance increasing considerably with higher levels of CDM/JI inflows (Neuhoff et al. 2006, 2). This message was supported by the Ecofys institute. Based on an assessment of proposed NAPs, Ecofys Director of Energy and Climate Strategies stated: if the European Commission follows the Member States’ proposals, we don’t expect to see a shortage of allowances in the market in the second phase. The market would rather 77 EU Energy (14 July 2006), ‘NAP2 Revealed: EUAs Capped at 482 mil mt/year’, Issue 137, 22. 78 ENDS Daily (18 July 2006), ‘EU Emission Trading Plans Trickle In Slowly’, Issue 2140. 79 Point Carbon (4 August 2006), ‘NAP Watch and Carbon Politics’, Point Carbon, Carbon Market Europe, 3. Formal notice is the first stage in the EU’s infringement procedure. 80 ENDS Daily (23 October 2006), ‘Dimas Gives Damning Verdict on Emissions Plans’, Issue 2190.

Development of the EU ETS

59

be long than short, especially taking into account the additional supply of project-based emission credits from the Clean Development Mechanism and Joint implementation. The market will only work properly if the caps are tightened, giving a clear price signal which will stimulate emission reductions within the EU’ (Ecofys 2006).81

Furthermore, on the basis of a study carried out by Ecofys, the World Wide Fund for Nature (WWF) warned that member-states were indeed aiming to allow much more credits from JI and CDM projects into the EU Emissions Trading Scheme. This, in combination with lax caps on emissions, would discourage European companies from reducing their own emissions and could cause the price of carbon to collapse.82 This basically gloomy message was further supported by a study published in November 2006 by the Fraunhofer/ISI research group (Rogge et al. 2006). However, there was variation among states. As the main exception to the gloomy picture summed up above, the UK plan was lauded as good and pioneering. According to an analysis carried out by Point Carbon, the UK had set a strict cap, considerably lower than what it could have got away with in relation to Commission guidelines. Hence, the UK was ‘leading the way again, ensuring that the CO2 market continues to function’.83 Moreover, the plans from Italy and Spain were hailed by independent experts as being relatively ambitious;84 referring to a study by the Carbon Trust. But most other plans were criticized for being overly generous, including those of Germany and France.85 Furthermore, with regard to the new member-states, it was claimed that Poland aimed for an allocation 34 per cent over the 2005 level, while other CEECs such as the Baltic states seemed to go for allocations even higher than that (some 80 per cent over 2005 levels).86 Hence, when the Commission’s first NAP II assessment of ten plans was published on 29 November, it did not come as a total surprise that only the UK plan was unconditionally accepted. All the other plans were modified (Germany, Greece, Ireland, Latvia, Lithuania, Luxembourg, Malta, Slovakia, and Sweden), mainly with reduced caps, as shown in Table 3.4 below. In particular, it should be noted that although Germany just prior to the Commission’s ‘verdict’ had unilaterally adjusted its cap down to 465 million tonnes CO2, the Commission adjusted its cap further down to 453 million tonnes CO2. Germany then responded by increasing its planned use of CDM from 12 per cent up to 20 per cent. 81 Ecofys (27 November 2006), ‘Market risks becoming long’, Press release. 82 WWF (2006), ‘Use of CDM/JI Project Credits by Participants in Phase II of the EU Emissions Trading Scheme – A WWF Summary of the ECOFYS UK Report’, November. (UK: WWF); ENDS Report (October 2006), ‘Excess Credits Threaten EU ETS, says WWF’, No. 381, 13. 83 Point Carbon (30 October 2006), ‘Point Carbon Expects the EC to Slash 240 million Allowances per year Off NAPs’. 84 Reuters/Planetark (11 November 2006), ‘EU’s Dimas Challenges States on Emissions Plans’. 85 Ibid. 86 Point Carbon (18 August 2006), ‘“The New Member States” NAPs under assessment’, Point Carbon, Carbon Market Europe, 1.

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Table 3.4

NAP II, outcome of first Commission assessment end November 2006 (all figures in million tonnes of CO2) Cap 2005–07 2005 verified Proposed Allowed cap Commission’s emissions cap 2008–12 2008–12 cut (%)

Germany Greece Ireland Latvia Lithuania Luxembourg Malta Slovakia Sweden UK

499 74.4 22.3 4.6 12.3 3.4 2.9 30.5 22.9 245.3

474 71.3 22.4 2.9 6.6 2.6 1.98 25.2 19.3 242.4

482 75.5 22.6 7.7 16.6 3.95 2.96 41.3 25.2 246.2

453.1 69.1 21.15 3.3 8.8 2.7 2.1 30.9 22.8 246.2

6 8 7 57 47 32 29 25 10 0

Source: Euractiv 4 December 2006.

Table 3.5

NAP II CDM/JI limits, outcome of first Commission assessment end November 2006 Proposed CDM/JI limit (%)

Germany Greece Ireland Latvia Lithuania Luxembourg Malta Slovakia Sweden UK

20 9 50 5 9 10 Not announced 7 20 8

Allowed CDM/JI limit (%) 20 9 22 5 9 10 – 7 10 8

Source: PCA (2007).

By end of April 2007, the European Commission had assessed nine more plans. France, and Slovenia joined the UK in getting their caps accepted at first try, and the Spanish cap was cut only very marginally. The Austrian, Belgian and Dutch plans had their caps adjusted down by 5–7 per cent, whereas the Czech, Hungarian and Polish plans were cut more severely. Hungary’s NAP was cut by 12.4 per cent, the Czech NAP by 14.8 per cent, and (importantly) the Polish NAP by a formidable 26.7 per cent! Furthermore, several countries had their plans for the use of the Kyoto Protocol’s flexible mechanisms scaled down markedly (for example, Poland: from

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61

25 per cent to 10 per cent; Spain: from 39 per cent to 20 per cent). These latter rounds of NAP II assessments are summed up in Table 3.6. Table 3.6

NAP II, outcome of second batch of Commission assessments, end April 2007 (all figures in million tonnes of CO2)

Cap 2005–7

Verified Emissions 2005

33.0 58.3

33.4 55.4

32.8 63.3

30.7 58.5

6 8

97.6

82.5

101.9

86.8

15

156.5 31.3 95.3 239.1 8.8 174.4

131.3 26.0 80.3 203.1 8.7 182.9

132.8 30.7 90.4 284.6 8.3 152.7

132.8 26.9 85.8 208.5 8.3 152.3

0 12 5 27 0 0

Austria Belgium Czech Republic France Hungary Netherlands Poland Slovenia Spain

Proposed Allowed cap Commission’s cap 2008–12 2008–12 cut (%)

Source: European Commission (16 April 2007), IP/07/501, Emission Trading: Commission Adopts Decision on Hungary’s National Allocation Plan for 2008-2012 (press release).

Table 3.7

NAP II CDM/JI limits, outcome of second batch of Commission assessments, end April 2007 Proposed CDM/JI limit (%)

Allowed CDM/JI limit (%)

20 7–8 10 13 10 12 25 18 47

10 7–8 10 13 10 10 10 16 20

Austria Belgium Czech Republic France Hungary Netherlands Poland Slovenia Spain Source: PCA (2007).

Concluding Comments The first allocation round of the first EU Emissions Trading Scheme NAP process has been characterized overall as having gone ‘remarkably well’ (Vis 2006b, 212). This assessment should be seen in light of the formidable challenge facing the EU and the Commission in setting up the first large-scale international emissions trading

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system in the field of the environment. The initial ‘construction’ challenge in the pilot phase was huge, with limited availability of data, not least about the emissions of large installations (Vis 2006b, 187). Furthermore, allowance prices were initially higher than expected. The market also initially seemed to have survived the major price crash of April/May 2006, following the above-mentioned publication of 2005 verified emissions below total allowances (although allowance prices in the pilot phase have dipped to a very low level indeed). Without ignoring this ‘institutional success in light of formidable challenge’ perspective, as indicated, we will nevertheless offer a generally more restrained assessment of implementation, not least because of the quite moderate achievements with regard to ambitiousness in NAP I. Also the Commission itself has not been satisfied with the first NAP process in this respect and is currently fighting to beef up the NAPs for the Kyoto commitment phase.87 By end of April 2007, 19 NAP II plans had been assessed by the Commission, with all but four plans cut (France, Slovenia, Spain and the UK) by around 9 per cent. Furthermore, the Commission has cut several CDM plans, for instance more than halving the plans of Spain and Poland. It is also clear that the implementation process has been marked by significant delays. However, within this overall picture of moderate implementation success, there are significant variations in national performances to date. In the following, we will focus on four countries that represent a spectrum of variations in implementation performance and geographical location. •



The UK – frontrunner: When NAP I and II are viewed in combination, the UK stands out as the main EU ETS implementation frontrunner. It was among the comparatively more ambitious in NAP I, and, when 2005 emissions were put on the table, it also emerged as one of the few countries that had not handed out more allowances than the ETS industries needed (it had ‘underallocated’). Not only has the UK been able to meet the deadlines quite well, its plan was the only one (out of the ten first assessed) to be unconditionally accepted in the first Commission NAP II ‘verdict’. Germany – reluctant: Germany is of key ETS importance and interest: it is the biggest EU emitter, and accounts for almost 25 per cent of total allowances. The country has been generally on time, and lies somewhere in the middle with regard to comparative ambitiousness. Figures on 2005 emissions showed that Germany had handed out slightly more allowances than the ETS industries needed (hence a slight ‘over-allocation’ in NAP I). In NAP II, Germany has seen its proposed NAP II cap rejected and adjusted considerably down by the Commission. However, not unlike the case with NAP I, Germany quarrelled with the Commission and has embraced the ETS only very reluctantly.

87 In the 2005 NAP II Communication, it is for instance noted that ’the EU ETS needs to be used more to fully realize the potential of emissions trading’. European Commission (22 December 2005), COM(2005)703 Final, Communication from the Commission: Further Guidance on Allocation Plans for the 2008 to 2012 Trading Period of the EU Emissions Trading Scheme (Brussels), 4.

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Spain – improving laggard: Spain was initially very delayed in NAP I, but speeded up significantly from late spring 2004 and ended up with comparatively acceptable NAP. When figures for 2005 emissions were announced, Spain proved to be among the few countries that had not handed out more allowances than the ETS industries needed (hence on the ‘under-allocation’ side), further confirming a certain NAP I soberness. Spain’s NAP II has been favourably received and (as was also the case with France, Slovenia and the UK only) its cap was accepted by the Commission at first try. Poland – laggard: It is hard to escape the conclusion that Poland figures centrally among ETS implementation laggards so far. It was seriously delayed in NAP I, and its cap showed comparatively little ambition. When 2005 figures were announced, Poland was found to be among the group of countries which had been most liberal in handing out allowances to the ETS industry (emerging as a clear ‘over-allocator’). Although the country has been on time as regards NAP II, its ambitiousness has again been seriously questioned. This was confirmed in late March 2007, when the Commission cut Poland’s suggested NAP II by not less than 27 per cent (down from 284.6 million allowances to 208.5).

In Chapter 6, we discuss further the variations in implementation, explain why implementation varies, and why there have been implementation problems in general. Conclusion In this chapter, we have focused on the development of what emerged as the EU Emissions Trading Scheme in light of the EU opposition to emissions trading during the Kyoto negotiations in 1997. We have distinguished between the initiation, decision-making and implementation phases of this system. In the initiation phase, the first positive signals about emissions trading came from the Commission shortly after the Kyoto Protocol, in late spring 1998. The idea of an EU-internal pilot ETS was launched already in the June 1998 Communication on an EU post-Kyoto strategy. Discussions were taken a bit further in the May 1999 Communication on preparing for implementation of the Kyoto Protocol. This Communication launched the idea of a system with basically narrow initial coverage, targeting large emitters or a single economic sector and only CO2 (the most measurable gas). Issues of harmonization and degree of centralized control were mentioned in only very general terms. These issues were then taken a significant step further in the March 2000 ETS Green Paper. Here, the Commission made a plea for a basically centralized and hence harmonized system for determining the crucially important emission ceilings/ caps within the system, emphasizing the substantial institutional challenges that a more decentralized approach would entail. The Commission also argued in favour of auctioning as the preferred method of allocating allowances. The suggested coverage of the system was in line with the 1999 Communication, singling out six sectors, of which electricity and heat production were by far the largest.

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The decision-making phase was launched with the drafting and presentation of the Commission’s proposal for an ET directive in October 2001. This proposal revealed two significant changes from the Green Paper: first, a decentralized approach was proposed, giving the member-states significant discretion concerning the total allocation of allowances. This meant that individual NAPs would determine the individual and collective reduction ambition of the system. Second, allowances were to be allocated for free. With regard to coverage, the proposal mainly followed the Green Paper, but the chemical sector was excluded. The proposal also suggested a penalty for non-compliance in line with the Green Paper. Only modest changes were made to this proposal through the EU decision-making process. The most important were more constraints on the allocation of allowances, greater flexibility in coverage/ participation in the pilot phase, and an opening for some auctioning in the allocation of allowances. In July 2003, the Commission also proposed a directive linking the EU ETS to the flexible mechanisms under the Kyoto Protocol. This proposal was changed to allow more use of JI/CDM credits by relaxing the quantitative cap, the restriction on when to use them, as well as which projects would qualify. Greater use of such credits would reduce the costs of compliance with the Kyoto commitments but would decrease the pressure to take action within the EU. In the last section, we offered an assessment of the implementation of the EU ETS so far. Bearing in mind all the significant challenges a new emissions trading system has to cope with, we concluded that achievements have been only moderate as yet. The major criterion underlying this assessment is the low degree of ambitiousness in terms of drawing up national allocation plans for the reduction of CO2 in the pilot phase. This is an assessment shared by the Commission, which was not satisfied with the first NAP process in this respect, and is currently trying to beef up the NAPs for the Kyoto commitment phase – apparently with substantially more success than in the pilot phase. In addition, there have been significant delays in applying the implementation steering signals and guidelines specified in the ETS Directive and several Communications from the Commission. This picture of generally moderate implementation success includes significant variations in national performance to date – to which we return in Chapter 6.

Chapter 4

Initiating EU Emissions Trading The previous chapter presented the main outcomes of the EU Emissions Trading Scheme in the phases of policy initiation, decision-making and implementation. In this chapter we narrow in on the policy initiation phase, from the 1997 Kyoto Protocol to the publication of, and responses to, the Green Paper in 2000. Our main question here concerns how and why the idea of an EU ETS was initiated and developed within the EU, given its initial scepticism to including emission trading in the Kyoto Protocol. Why did the EU initiate internal emissions trading shortly after it had opposed emissions trading internationally? As noted in Chapter 2, we will assess three propositions derived from three explanatory perspectives. The first proposition focuses on the positions of the EU member-states. It is based on the broader approach of intergovernmentalism, and holds that the EU ETS evolved due to a change in the positions of the member-states. The European Commission, which formally initiates new EU legislation, acted on a request from member-states and anticipated broad-based support. Our second proposition focuses on EU institutions and non-state actors at the Community level, with multi-level governance as the broader theoretical approach. It holds that the EU ETS evolved due to a change in the position of the European Commission, which acted independently of the member-states, facilitated by support from affected nonstate actors. While these propositions focus on factors internal to the EU, the third proposition takes us to the international context. This proposition is based on the international regime approach and states that the EU ETS evolved as a response to the international climate regime – the UNFCCC and the Kyoto Protocol. As emissions trading was a central part of the negotiations leading up to the 1997 Kyoto Protocol, we will start the analysis with the climate regime and the EU ETS. We then analyse the role of the European Commission and non-state actors. Finally, we narrow in on the development in the positions of the EU member-states. Impact of the International Climate Regime To what extent and how did the climate regime affect the initiation of EU ETS? More specifically, how did it affect the evolution of the idea of emissions trading, the timetable for developing EU ETS, and the emerging discussion of design features? In Chapter 2, we proposed that EU institutions and actors initiated the idea of emissions trading in response to the climate regime.

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Introducing the Idea The idea of international emissions trading developed in the international climate negotiations after the first Conference of the Parties (CoP-1) to the United Nations Framework Convention on Climate Change (UNFCCC) held in Berlin in 1995.1 The ‘Berlin Mandate’ concluded that UNFCCC commitments were inadequate. It therefore initiated a follow-up process aimed at taking action for the period beyond 2000 by elaborating policies and measures and setting binding and quantified reduction objectives. At the second CoP in Geneva 1996, the USA announced that it was ready to support a legally binding protocol linked to international flexibility instruments including a tradable permit system.2 In a non-paper, the USA formally linked its support for legally binding targets with the inclusion of emissions trading (Yamin 2005a, 6). International emissions trading was seen by the USA and some other countries as the most effective way to ensure international flexibility, making it possible to agree on emission reductions at lower national costs. The JUSCANNZ umbrella group (including the USA, Japan, Switzerland, Canada, Australia, Norway and New Zealand) emerged as a serious counterweight to the EU in the Kyoto negotiations (Grubb et al. 1999, 34). The EU reacted by uncertainty and suspicion to the US proposal. In addition to concerns that emissions trading would not be practical, the main concern was that international flexibility would provide a strategy for the main emitters to avoid significant domestic action (Grubb et al. 1999, 92). This concern was related to ‘hot air’ from Eastern Europe and Russia. As emissions fell in the countries with economies in transition, an international reduction target could mean that emission allowances would be transferred from those countries to the OECD countries, the USA and Japan in particular. Nor did developing countries embrace the idea of emissions trading. They were distrustful, fearing that the rich countries would simply buy their way out of domestic action and shift the burden of controlling GHG to the South (Yamin 2005a, 5). Negotiations on the Berlin Mandate took place mainly within an Ad Hoc Group on the Berlin Mandate (AGBM) which met eight times between 1995 and CoP3 in Kyoto, Japan. Emissions trading was one of the policies and measures under consideration at the AGBM meetings. The EU favoured a mandatory approach to a new legal instrument based on common and coordinated policies and measures. Washington, however, opposed harmonized measures and advocated flexibility through national programmes based on national circumstances.3 The USA and its

1 The 1992 UNFCCC included a reference to ‘joint implementation’, but it was not clear whether this referred to some kind of emissions trading (Yamin 2005b). 2 Earth Negotiations Bulletin (38, 1996), ‘Summary of the Second Conference of the Parties to the Framework Convention on Climate Change: 8-9 July 1996’, 12:38, 12. 3 Earth Negotiations Bulletin (39, 1996), ‘Report of the Meetings of the Subsidiary Bodies of the UN Framework Convention on Climate Change: 9-18 December 1996’, 12:39, 4.

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allies pushed hard to get the provisions for emissions trading included among Annex I Parties to the UNFCCC, in practice the industrialized countries.4 In June 1997, an EU Council meeting under the Dutch presidency responded to the US pressure by concluding: ‘The Council regrets that not all industrialized countries have come forward with proposals for quantified targets or common and coordinated policies and measures (CCPMs), while some of these countries have outlined proposals for emissions trading as a mechanism for achieving such targets’.5 At first glance, this would seem to indicate that the EU was unified in its opposition to international emissions trading. However, the Council goes on to state: ‘The Council considers that the mechanisms such as emissions trading are supplementary to domestic action and CCPMs, and that the inclusion of any trading system in the Protocol and the level of the targets to be achieved are independent. It therefore calls upon all industrialized countries to indicate the targets they envisage for 2005 and 2010’.6 This conclusion, which was reaffirmed at the EU Council meeting in October, indicates that the EU could accept international emissions trading as a negotiation compromise as long as it did not imply a weaker overall protocol. Against this backdrop, the draft text of the Kyoto Protocol presented at AGBM-8 in October 1997 contained a provision that Annex I parties might transfer to, or acquire from other Annex I parties, any of its emissions allowed for the purpose of meeting its commitments.7 This provision did not view emissions trading as supplementary to domestic action and it went far beyond the conclusions of the EU Council. In Kyoto, emissions trading became the issue that nearly killed – but saved – the Protocol (Grubb et al. 1999). The USA could not accept a binding numerical emission target without flexibility and the EU could not accept a protocol without a binding numerical target. And no agreement could be reached on the text proposed at AGBM-8. In this situation, the UK proposed amending the text to clarify that emissions trading could not start until appropriate rules and guidelines were developed by subsequent Conferences of the Parties.8 This compromise proposal was supported by the USA and the EU. The UK proposal also revealed that the EU was not perfectly unified in its opposition to the idea of emissions trading. The UK was more receptive to market-oriented instruments than most other EU states. Nevertheless, it is clear that emissions trading was not part of the EU negotiating position in the Kyoto negotiations. Although the Council could accept international emissions trading under specific conditions and as a concession to the USA in particular, the EU Commission explicitly stated: ‘especially the so-called flexible

4 UNFCCC divides the parties into Annex I and non-Annex I countries. Annex I lists 41 industrialized countries which have to implement policies and measures to reduce emissions of GHGs. 5 Council (23 June 1997), 9375/97, Subject: Community Strategy on Climate Change. Outcome of Proceedings from Environment Council on 19 June 1997. Brussels, 2. 6 Ibid. 7 Earth Negotiations Bulletin (76, 1997), ‘Report of the Third Conference of the Parties to the Framework Convention on Climate Change: 1-11 December 1997’, 12:76, 11. 8 Ibid., 12.

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mechanisms…were not an integral part of the EU’s approach at Kyoto’.9 This means that the Kyoto Protocol had a significant potential to affect the position of the EU with regard to emissions trading. The final text, which appears as Article 17 in the Kyoto Protocol, reads as follows: •

• •

The CoP shall define the relevant principles, modalities, rules and guidelines, in particular for verification, reporting and accountability for emissions trading; The Parties included in Annex B may participate in emissions trading for the purposes of fulfilling their commitments under Article 3 of this protocol; Any such trading shall be supplemental to domestic actions for the purpose of meeting quantified emission limitation and reduction commitments under that article.

This text satisfied the proponents of emissions trading by including the idea as an integrated part of the Protocol. Conversely, opponents could claim that there would be no such trading until the rules and procedures were defined. Moreover, the principle that emissions trading should be ‘supplementary’ to domestic action was in line with the EU Council conclusion adopted prior to Kyoto. One of the most controversial issues within the EU became the definition of a concrete ceiling on the use of flexible mechanisms to ensure that those mechanisms did not undermine domestic action. Despite significantly differing positions on this issue, the EU abandoned a proposed 50 per cent ceiling, fearing that the USA would refuse to ratify the Protocol. In addition, we should note that Article 17 did not mandate emissions trading in any way – it merely stated that annex B parties may utilize this instrument.10 In Chapter 2, we assumed that the climate regime facilitated EU initiation of emissions trading through pressure, opportunities and learning. Pressure can be observed as the EU ETS was initiated as an explicit response to the Kyoto Protocol commitment to reduce emissions by 8 per cent from 1990 between 2008 and 2012. The Communications prepared by the European Commission in 1998 and 1999 depict emissions trading as part of EU implementation of the Kyoto Protocol (see Chapter 3). Despite the optional nature of Article 17, the Commission expected international emissions trading to become operational under the climate regime from 2008, and argued that an EU internal emissions trading system from 2005 would ‘provide invaluable practical experience of trading’.11 Moreover, the reduction commitments in the Kyoto Protocol were perceived as mandatory by the Commission and most of the member-states, which emphasized the need for new policy instruments to achieve 9 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels), 4. 10 Annex B to the Kyoto Protocol lays down binding emissions targets for all Annex I countries (to the UNFCCC) except Belarus and Turkey. 11 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels), 20.

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the Kyoto target. The EU’s leadership ambition in international climate policy and its insistence on binding numerical reduction targets in the Kyoto negotiations implied a particular obligation for the EU to comply with the Kyoto commitments. In essence, the Kyoto Protocol commitments increased the willingness of the EU to implement new climate policy instruments to achieve the Kyoto target. The Kyoto commitments could be achieved by various types of climate policy instruments. In this situation, the Kyoto Protocol gave the EU particular incentives to engage in emissions trading as that could reduce the costs of complying with the Kyoto target. Emissions trading thus represented a new economic opportunity for the EU. When the Commission presented its Green Paper on emissions trading in March 2000, it attached an economic analysis showing significant savings from emissions trading.12 Early movers could also gain additional benefits by acquiring administrative experience of running emissions trading systems (Oberthür and Tänzler 2007).13 Finally, the Kyoto Protocol facilitated learning by linking the international commitments to active promotion of the idea of emissions trading by the USA. The USA had experience with emissions trading as part of the 1990 amendment to the Clean Air Act and the establishment of sulphur dioxide (SO2) and nitrogen oxide (NOX) trading systems. As a leader in the JUSCANNZ group, the USA tried to convince others of the advantages of emissions trading and other flexible mechanisms (Yamin 2005b). After Kyoto, the US experience became important for the EU.14 In 2000, for example, at the first meeting in European Climate Change Programme (ECCP) Working Group 1 on flexible mechanisms, Brian McLean, Director of the Clean Air Markets Divisions at the US Environmental Protection Agency, presented the SO2 and NOX emissions trading schemes operating in the USA.15 Starting the internal EU stakeholder discussion with practical and positive experience from the USA was extremely valuable, despite the differences between air pollution and climate change and the US political system compared to that of the EU. It was also politically important for the EU to have the support of the USA in developing this new policy instrument. According to Vis (2006a, 58) ‘The European Union has learnt a great deal about the instrument of emissions trading from the United States.’ On the other hand, the Kyoto Protocol was crucial in linking the US idea to the Kyoto commitments and the EU GHG reduction targets that were to become the basis for the EU ETS. Moreover, as the rules and procedures for 12 This analysis showed that individual compliance with the Burden-sharing Agreement would annually cost €9.0 billion, EU-wide trading among energy producers would cost €7.2bn, EU-wide trading among energy producers and energy-intensive industries would cost €6.9bn, and EU-wide trading among all sectors would cost €6.0bn. See Vainio and Zapfel (2006) for a comprehensive discussion of economic analysis and EU emissions trading. European Commission (8 March 2000). COM(2000)87 final, Green Paper on Greenhouse Gas Emissions Trading within the European Union (Brussels). 13 This argument was used by EURELECTRIC. Interviews in Brussels, 11 January 2006. 14 Interviews in Brussels, 12 January 2006. 15 European Commission (12 July 2000), ECCP Working Group 1, Summary Record of Meeting 4 July 2000 (Brussels).

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international emissions trading were not defined in the Kyoto Protocol, emissions trading was frequently discussed as part of the subsequent international negotiations. This helped make the idea familiar to EU governments through their involvement in detailed international discussions (Oberthür and Tänzler 2007). We can conclude, first, that the climate regime increased the willingness of the EU to implement new climate policy instruments by means of general pressure to comply with the Kyoto commitments. Second, despite the EU opposition to emissions trading during the Kyoto negotiations, the Kyoto Protocol gave the EU special incentives to engage in emissions trading as it would reduce the costs of complying with the Kyoto target. Finally, the Kyoto Protocol facilitated learning, by linking the US promotion of emissions trading to the Kyoto commitments, and through detailed international negotiations. In subsequent sections we shall see that emissions trading initiatives of the EU member-states, the EU institutions and industry can mainly be traced back to the Kyoto Protocol.16 Initial Design and Timing Article 17 of the Kyoto Protocol did not say much about the design of an emissions trading system. As proposed by the UK, the design of an international trading system under the Kyoto Protocol should be left to the subsequent climate negotiations. The European Commission expected that the flexible mechanisms – JI, CDM and ET – would be further defined at CoP-4 in Buenos Aires in 1998: ‘…the intra EC-trading arrangements must be in conformity with the rules and modalities agreed in Buenos Aires for emissions trading at an international level’.17 This expectation was shared by the member-states. In March 1998, the Council of Ministers underlined that ‘emissions trading should be subject to appropriate rules and that these rules should be developed at CoP4’.18 The Commission and the member-states thus expected the Buenos Aires negotiations to produce the same outcome as the negotiations in Marrakech actually did three years later. CoP-4 in Buenos Aires failed to define the rules of the game for emissions trading. It focused mainly on developing countries and did not succeed in bringing the discussion on the rules and modalities for emissions trading much further. This conference was nevertheless important as it confirmed the Kyoto Protocol and maintained momentum by deciding on a follow-up processes. It was agreed to set up a work programme on the flexible mechanisms as part the Buenos Aires Plan of Action.19 This plan initiated new negotiations on emissions trading to be agreed by CoP-6 at The Hague, in November 2000. A list of possible topics was attached 16 There is, however, anecdotal evidence of early discussions of a system of tradable permits in Europe (Christiansen 2004, 31). 17 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels), 21. 18 Council (26 March 1998), 7125/98, Subject: Community Strategy on Climate Change. Outcome of proceedings from Environment Council on 23 March 1998. Brussels. 19 Earth Negotiations Bulletin (97, 1998), ‘Report of the Fourth Conference of the Parties to the Framework Convention on Climate Change: 2-13 November 1998’, 12:97.

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to the decision, including not less than 32 outstanding issues on emissions trading (Grubb et al. 1999, 251). Negotiations on the emissions trading rules continued in working groups and at CoP-5 in Bonn 1999. In line with the Buenos Aires Plan, it was intended that agreement on a range of issues should be reached at CoP-6 at The Hague. After two weeks of negotiations, however, the Parties failed to reach consensus on several key issues. One of these issues was modalities and rules for emissions trading.20 The failure to develop rules for an international emissions trading system in The Hague indicates that the climate regime did not significantly affect the initial discussion on how to design the EU ETS. The EU Green Paper on emissions trading, which outlined various design options, was published in March 2000 – before CoP6 in The Hague. And the international rules were finalized later than the proposal for the emissions trading directive.21 After CoP-4 in Buenos Aires, the Commission understood that it would take time to agree on an international system. In May 1999, the Commission concluded: ‘… the ongoing negotiations in the context of the Buenos Aires Plan of Action are not likely to result in a high degree of detail concerning the rules and guidelines for international emissions trading’.22 The Commission thus prepared for initiating an EU emissions trading system largely independent of the international negotiations. However, the EU ETS was kept as close to the Kyoto Protocol as possible (Vis 2006a, 55). For example, the choice of a downstream system has been related to the approach of the Kyoto Protocol. According to Zapfel (2005, 165) a downstream scheme applying to the points of the emission sources would make it easier to include all the six GHGs included in the Kyoto Protocol and also in relation to the territoriality principle where emissions are attributed to the national inventory of the country where the fuel is combusted. Concerning the timetable for developing an EU ETS, Article 3 of the Kyoto Protocol sets the central provisions for the industrialized countries in Annex I of the UN Framework Convention on Climate Change. The numerical commitments are included in Annex B to the Protocol: ‘The parties included in Annex I shall, individually or jointly, ensure that their aggregate anthropogenic carbon dioxide equivalent emissions of greenhouse gases listed in Annex A do not exceed their assigned amounts … with a view to reducing their overall emissions of such gases by at least 5 per cent below 1990 levels in the commitment period 2008 to 2012’. Furthermore, ‘Each party included in Annex I shall, by 2005, have made demonstrable progress in achieving its commitment under this Protocol.’

20 Earth Negotiations Bulletin (163, 2000), ‘Summary of the Sixth Conference of the Parties to the Framework Convention on Climate Change: 13-25 November 2000’, 12:163, 18. 21 The Commission proposed the ET Directive in October 2001, whereas the Marrakech agreement, which specified the emissions trading rules, was concluded on 9 November 2001. 22 European Commission (19 May 1999), COM(99)230, Commission Communication to the Council and the Parliament. Preparing for Implementation of the Kyoto Protocol (Brussels), 15.

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These provisions largely determined the timetable and speed for the development of EU ETS.23 It was clear that the Commission did not have much time to prepare for emissions trading, because emissions patterns cannot be changed overnight. As noted in Chapter 3, the 2005 deadline was immediately included in the first June 1998 Post-Kyoto Strategy Communication from the Commission: ‘ … the Community could set up its own internal trading regime by 2005 as an expression of its determination to promote achievements of targets in a cost-effective way’.24 This deadline was repeated in the 1999 Communication ‘Preparing for Implementation of the Kyoto Protocol’25 and became the focal point for both the Green Paper on emissions trading and the Commission’s proposal for an emissions trading directive. The proposal suggests a pilot phase for EU ETS from 2005 to 2007. As for the Kyoto Protocol’s Article 17 on emissions trading, the 2005 deadline was not an integral part of the EU’s negotiating position at Kyoto.26 Moreover, the EU preferred a fixed date for reductions (2010) rather than the 2008–12 commitment period. This indicates that the Kyoto Protocol fixed the timetable for the EU ETS. According to Vis (2006a, 39), the pressing time limits of the Kyoto obligations were a main reason for the rapid adoption of the EU ETS. Article 4 of the Kyoto Protocol allows the EU to operate under a burden-sharing agreement (BSA), often referred to as the EU ‘bubble’. This agreement, reached in 1998, divides the EU’s target agreed in Article 3 of the Protocol into differentiated targets for each of the then 15 member-states (see Chapter 1). The BSA represents the core of the EU’s implementation of the Kyoto Protocol, the framework for EU climate policy and the development of the EU ETS. According to Article 4: ‘Any Parties included in Annex I that have reached an agreement to fulfil their commitments under Article 3 jointly, shall be deemed to have met those commitments … in accordance with the provisions of Article 3. The respective emission level allocated to each of the Parties to the agreement shall be set out in that agreement’. This text allows the EU and the member-states to fulfil their commitments jointly through differentiated commitments between member-states. Furthermore, Article 4 states: ‘If Parties acting jointly do so in the framework of, and together with, a regional economic integration organization, any alternation in the composition of the organization … shall not affect existing commitments under this Protocol’. This implies that the enlargement of the EU with 10 new members on 1 May 2004 did not affect the Burden-sharing Agreement: the new member-states were automatically included in the EU ETS.

23 Interviews in Brussels, 12 January 2006. 24 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels), 20. 25 European Commission (19 May 1999), COM(99)230, Commission Communication to the Council and the Parliament. Preparing for Implementation of the Kyoto Protocol (Brussels). 26 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels), 5.

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In contrast to Article 17 and the timetables included in Article 3, Article 4 was largely, but not fully, in line with the negotiation position of the EU. Since 1995, the EU had worked to hammer out a burden-sharing agreement, for various reasons. First, a common position would strengthen the EU negotiating position in Kyoto. Second, the significantly differing energy production and consumption patterns of the EU member-states made it difficult to set identical targets for each one. The EU reached an internal BSA in March 1997 – nine months before the Kyoto negotiations. The environmental ministers agreed to propose a 15 per cent cut in emissions of three greenhouse gases by 2010.27 The agreement was based on the ‘Triptych Approach’, which separated national economies into various sectors. This justified differentiated targets for the EU member-states, as some relied heavily on coal whereas others relied on emission-free nuclear power (see Ringius 1999). During the Kyoto negotiations, the EU had to accept provisions that necessitated a revision of the initial Burden-sharing Agreement. The number of greenhouse gases was increased from three to six.28 Moreover, the agreed reduction target was 8 per cent between 2008 and 2012 rather than 15 per cent by 2010. This led to new internal burden-sharing negotiations in the wake of the Kyoto Protocol. In June 1998, the meeting of the EU Environmental Council of Ministers agreed to distribute the 8 per cent target to varying commitments among the member-states. For example, Germany and Denmark would have to reduce emissions by 21 per cent, whereas Portugal was allowed to increase its emissions by 27 per cent. The Burden-sharing Agreement became legally binding when the EU ratified the Kyoto Protocol in May 2002. The 2002 Council Decision was in itself binding irrespective of the entry into force of the Kyoto Protocol (Lefevere 2005, 80). In the implementation phase, the individual targets under the BSA for EU-15 were linked to the national allocation of allowances under the ET Directive (see Chapter 6). As noted, the Kyoto Protocol facilitated initiation of the EU ETS by means of pressure, opportunities and learning. In this section, we have seen that the timetable for the development of EU ETS was also a product of the climate regime. The commitment period included in the Kyoto Protocol and the requirement of showing demonstrable progress by 2005 determined the time-schedule for the EU ETS. Only to a limited extent did the climate regime itself specify the rules for international emissions trading on which the EU could base its own system. In fact, the EU developed its own system before the international system had been worked out under the Kyoto Protocol. The EU ETS was also to become significantly more complex and detailed than the international system, as it would be based on company actions and not governmental actions underlying the Kyoto Protocol. Role of EU Institutions and Non-state Actors The climate regime introduced the idea of emissions trading within the EU. However, the Kyoto Protocol in no way required the development of an internal EU ETS, and 27 Carbon dioxide (CO2), methane (CH4) and nitrous oxide (N2O). 28 The three additional gases are hydrofluorcarbons (HFCs), perfluorcarbons (PFCs) and sulphur hexafluoride (SF6).

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the Protocol had little to say about the specific design of such an internal system. Can further scrutiny of the role of EU institutions and non-state actors shed light on the more specific development of an internal EU ETS? The Commission’s BEST Group In Chapter 2, we proposed that the Commission changed its mind on emissions trading and initiated the EU ETS independently, not as a response to a request from member-states. A precondition for this proposition was that the Commission had the support of major affected non-state actors – and there is certainly some evidence of this. The EU had, as noted, voiced a generally sceptical position to flexibility mechanisms in the negotiations leading up to the Kyoto Protocol. Although this can partly be interpreted as a move on the part of the EU to counter suspected US efforts at watering down emerging global targets, it also resonated well with both the EU’s command-and-control tradition and the preferences of central Commission officials. For instance, Jørgen Henningsen, who headed DG Environment work on climate change throughout much of the 1990s, has been a characterized as a person favouring command–and–control instruments and a ‘Best Available Technology’ approach to environmental policy.29 One first important development was the change of personnel within the Commission’s environment directorate that took place shortly after the adoption of the Kyoto Protocol. Henningsen left, and along with him most of the staff who had worked on climate change issues (Lefevere 2005, 96). In the power vacuum that followed, Jos Delbeke became the leader of the process of developing climate change policy instruments. Delbeke holds a PhD in economics and had worked in DG Environment’s economic instruments unit for some years, among other things being involved in the futile efforts to get the EU carbon/energy tax adopted. Also other economists were recruited to Delbeke’s new team.30 Among them were Ger Klaassen, Peter Vis and Peter Zapfel. Klaassen had written about possible EU emissions trading in the environmental policy context (Klaassen 1999). Zapfel had studied emissions trading in the USA.31 Vis joined the European Commission in 1990, had worked on environmental economic instruments since 1997, and became the main author of the Commission’s Green Paper on emissions trading in 2000. The other important development was the increasing recognition that new policy instruments at the Community level were needed to achieve the Kyoto target. It also became clear that the proposed directive on the carbon/energy tax would not be adopted, due to the requirement of unanimity. The instrument of emissions trading thus appeared to be very convenient. It was new and it resonated well with economists’ emphasis on cost-effectiveness. Moreover, it could be proposed under the qualified majority rule, thereby avoiding the fate of the carbon/energy tax. A core group of EU officials was being formed, dominated by economists open to the idea of emissions trading, and seeking the swift development of an EU ETS. 29 Interviews in Brussels, 26–27 May 2004. 30 Interviews in Brussels, 12 January 2006. 31 Interviews in Brussels, 26–27 May 2004; 15 May 2006.

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This group grew to include the main formal skills needed: in law, engineering and political science.32 For the sake of simplicity, this group is henceforth referred to as the ‘Bureaucrats for Emissions Trading’ (BEST) group. Industry was generally far more positive to emissions trading than it had been to the carbon/energy tax. From an industrial perspective, the main difference is that emissions trading provides companies with a tradable asset, whereas taxes extract revenues from companies. Carbon trading could even offer industries with shrinking emissions an opportunity to emerge with net profits. As early as May 1997, the oil major British Petroleum (BP) announced that it planned to set up an internal emissions trading system, collaborating with the US environmental group Environmental Defense Fund (Morgheim 2000). BP’s CEO John Browne announced that BP, as the first multinational oil company, would change its climate strategy and cut company-internal GHG emissions. This was followed up by the goal of cutting emissions by one tenth by the year 2010 (using 1990 as the baseline year), to be achieved by an internal emissions trading system. BP began a pilot trading scheme in September 1998, and full company trading started in 2000 (Victor and House 2006). The other European oil major Shell followed BP by announcing a similar initiative in October 1998.33 At the Euro-federation level, BP and Shell pushed EUROPIA towards supporting emissions trading. EUROPIA is composed of over 20 oil companies and represents the downstream activities of the oil industry within the EU – including refineries which became part of the EU ETS. EUROPIA changed its position, from being one of the most aggressive opponents of EU climate policy and the carbon/energy tax in the early 1990s to welcoming emissions trading (Skjærseth and Skodvin 2003). In general, EUROPIA supports the positions of the Industrial and Employers’ Confederation of Europe (UNICE) on climate change.34 And, in an April 1998 position paper, UNICE cautiously supported emissions trading – however, stressing the need for a ‘well-designed’ and ‘rigorous’ system.35 The support of these companies and organizations was a clear inspiration to the BEST group, who could see them as important strategic partners. Support from important industry organizations and major companies would also increase the likelihood of support from other parts of the Commission with responsibility for industry and competition. When the major European oil companies – which make a living from two of the major causes of anthropogenic climate change, oil and gas – voluntarily implemented emissions trading, that obviously made it more difficult for other industries to oppose the idea. Even though industry in general preferred emissions trading to taxes, most industries would rather have voluntary agreements

32 See Delbeke (2006) for biographies of the core team. 33 ENDS Daily (16 October 1998), ‘Shell Adopts Kyoto Emissions Cut Commitment’, Issue 398. 34 EUROPIA (1999), Activity Report (Brussels: EUROPIA). 35 According to ENDS Daily, there was a Commission ‘strategy document’ on emissions trading to be published in May 1998; thus it is reasonable to see the UNICE position paper as an input to that document. ENDS Daily (7 April 1998), ‘EU Firms Call for Rigorous Gas Trading Rules’, Issue 282.

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than emissions trading in climate policy.36 This preference order is hardly surprising: voluntary agreements are a ‘softer’ policy instrument than emissions trading, particularly with regard to enforcement. The most eager proponents of voluntary agreements were main power-consuming industries like cement and steel.37 As further discussed later, at this stage there were also some country-specific differences with regard to industry positions: for instance, British industry was generally more positive to emissions trading than German industry (which already had flexible voluntary agreements). The main point is that, despite variations in positions on emissions trading and considerable uncertainty about this instrument, there was little reason to expect the sort of massive and outright opposition from industry that had been experienced in the case of the carbon/energy tax (Skjærseth 1994). But what about the traditional industry counterparts, the ENGOs? During the Kyoto negotiations, most European-based green organizations joined in opposing emissions trading under the slogan ‘trading pollution is not a solution’. In the immediate post-Kyoto phase, they were mainly concerned with the possibilities of a Russian sale of ‘hot air’ and how polluters could ‘buy themselves out’ instead of dealing effectively with their own emissions (see Chapter 1).38 However, some early cracks in the ENGO position can be noted. For instance, responding to the April 1998 UNICE position paper, Liam Salter of Climate Action Network Europe (CNE) stated: ‘it is a good idea for companies to start working out how the mechanisms will work in practice’.39 He welcomed UNICE’s emphasis on a ‘rigorous’ system and emphasized the need for trading to take place under an effective overall regime. But it was not until October 2000 that the CNE developed and published an official position paper on the EU ETS. The Commission knew that at least some of the ENGO trading resistance was rooted in the fight with Washington over the form of the Kyoto Protocol. Given the environment directorate’s generally good relationship to the ENGO community, the BEST group probably reckoned they could convince at least the core actors within this community (like the CNE) about the virtues of trading (see for example Grant et al. 2000, 21). The Commission knew that it would be difficult to get support for emissions trading from the European Parliament in the decision-making phase if the major ENGOs strongly opposed it. In late spring 1998, at least one important obstacle remained for the BEST group in terms of preparing the ground for a radical shift of the DG Environment’s position on emissions trading: convincing Environment Commissioner, Ritt Bjerregaard. She had experienced the fight with the USA over the Kyoto Protocol

36 Judging from the positions taken by UNICE and other industry actors at a workshop arranged by the Commission’s Industry Directorate in October 1998, the main climate policy instrument priority of industry was voluntary agreements, with emissions trading as an important supplementing instrument. ENDS Daily (9 October 1998), ‘Industry Calls for EU Climate Agreements’, Issue 393. 37 Interviews in Brussels, 15–16 May 2006. 38 See Chasek (1998) and Zapfel and Vainio (2002, 6). 39 ENDS Daily (8 April 1998), ‘Industry Emissions Trade Position Welcomed’, Issue 283.

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and was influenced by the general EU scepticism towards flexibility mechanisms and emissions trading. Although Bjerregaard was on good terms with BEST’s key man Jos Delbeke, tactical skill was certainly also needed. So in discussions with Bjerregaard, Delbeke framed the emissions trading idea cleverly. He underlined how the setting of caps would ensure the certainty of environmental outcomes, and that good monitoring and verification were both essential and feasible.40 In the end, he succeeded in converting the previous flexibility-sceptical commissioner.41 The emphasis on a ‘cap-and-trade’ system which would guarantee a positive environmental outcome, rather than a ‘baseline-and-credit’ system, was also important for persuading the ENGOs. As shown in Chapter 3, the idea of an internal EU ETS was officially launched in the June 1998 Communication on an EU postKyoto strategy. Delbeke’s cautious framing of the issue is also evident in the wording of this Communication, with its emphasis on quantitative ceilings on the use of the flexible mechanisms, and not least the need for strict monitoring and penalties for non-compliers. Summing up, this part of the story indicates that it was the Commission – with the help of the Kyoto Protocol – that launched the idea of an internal EU ETS. An important condition for the Commission’s initiative was cautious support and lack of outright opposition from industry. Important industry federations immediately signalled a much more positive attitude to emissions trading than to taxes. Some major companies were even proactive – like BP, which served as an inspiration for the Commission. From Knowledge Building to Green Paper Revision of the Burden-sharing Agreement was the main priority for the EU until June 1998. With regard to the internal EU ETS test balloon launched in the June 1998 Communication, DG Environment got a very poor response.42 EU attention to emissions trading was directed mainly at the international level, with the expectation of clarifying the rules at the November 1998 CoP-4 in Buenos Aires. Moreover, the EU Commission had to devote considerable time and resources to the debate following Article 17 of the Kyoto Protocol that trading should be supplemental to domestic action. The EU went to CoP-4 arguing for an unspecified limit to be set on countries’ use of the flexible mechanisms. The process of clarifying exactly what a ‘concrete cap’ on these mechanisms should mean for the EU continued well into the spring of 1999.43 No wonder then that thinking about the more specific design of an EU ETS was not taken very much further in the 1999 Communication on ‘Preparing 40 Interviews in Brussels, 12 January 2006. 41 When for instance Bjerregaard was interviewed by International Environment Reporter in June 1998, she spoke about emissions trading in quite positive terms. International Environment Reporter (24 June 1998), ‘EU Agrees on Burden-sharing Plan for Emission Cuts under Kyoto Protocol’. 21:13, 608–9. 42 Interviews in Brussels, 12 January 2006. 43 The issue was then temporarily resolved in mid-May 1999, when agreement was reached on a ceiling produced through a complicated formula that would equate to approximately 50 per cent of national commitments. The US reception to this proposal was

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for Implementation of the Kyoto Protocol’, compared to the 1998 Communication launching the idea of an internal EU ETS. Another major reason for lack of progress in this period was simply lack of knowledge: the BEST group did not know enough about what an EU ETS should or could look like. As noted in Chapter 3, the ETS Green Paper published in March 2000 took the design discussion a substantial step further. The following main design preferences were put forward in the Paper: (1) a cap-and-trade system, based on a total cap on emissions covered by the system; a centralized setting of the national caps/ceilings was indicated as preferable; (2) a downstream system, covering a rather narrow set of sectors (with the LCP and IPPC Directives offering reference points), with electricity and heat production as the prime target; (3) auctioning as the technically preferable method of allocation; (4) strict penalties and a robust enforcement regime. This development from vague idea to specific design proposal can be traced back to knowledge-building in the European Commission. In January 1999 the Foundation for International Law and Development (FIELD), together with the Center for Clean Air Policy (CCAP) in Washington, were commissioned by the European Commission to undertake a study of design options for the implementation of an emissions trading regime for greenhouse gases in the European Union. The objective of the study was to propose design options for an emissions trading system that would take into account previous experience and ongoing UNFCCC negotiations, and assess how such a system could be combined with Community legislation, domestic policies and measures and use of the Kyoto mechanisms. 44 The external consultants FIELD and CCAP produced seven ‘scoping papers’ along the way (see for example Kerr 1999), before publishing their two main inputs in February 2000 (FIELD 2000; CCAP 2000). Their work and reports discussed all the main design issues subsequently taken up in the Green Paper. As stated by one of the process insiders, ‘what was really advancing behind the scene were the consultant reports’.45 With regard to the type of system, it was noted that both a capand-trade system based on past emissions and a baseline-and-credit system related to output could involve problems of possible undesirable incentives. For example, cap-and-trade could reward low energy efficiency in the past, while baseline and credit could create incentives to increase output (Kerr 1999). However, the main, final report began by noting that ‘the most successful trading schemes around the world are cap-and-trading schemes’, and hence took such a design as the basis for the ensuing design discussion (FIELD 2000, 12). Furthermore, in 1999, UNCTAD published a report on emissions trading that clearly recommended cap-and-trade between private entities rather than baseline-and-credit, for both environmental and economic reasons (Tietenberg et al. 1999). 46 This recommendation was based

very negative. ENDS Daily (19 May 1999), ‘USA Slams EU Kyoto Trading Cap Plan’, Issue 534. 44 FIELD, ‘Working towards an Emissions Trading Directive for the European Union’, accessed 16 May 2007. 45 Interviews in Brussels, 15–16 May 2006. 46 The experience collected in the UNCTAD report was cited in the FIELD report.

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mainly on US experience with both types of systems.47 Cap-and-trade thus served as a premise in the early EU deliberations on design, even though it was challenged – by power-consuming industry in particular. Furthermore, although an upstream approach rated higher than a downstream approach on efficiency and environmental effectiveness grounds, a downstream approach was perceived as more politically feasible as it would naturally be limited to major industrial sectors (FIELD 2000, 5). As a downstream system could not feasibly target millions of individual fuel users, it would be limited to major industrial sectors like electricity, steel, chemicals and cement (Ibid., 23). With regard to method of allocation, auctioning of permits was seen as preferable, with allocation for free only as a second-best option. A centralized, EU-level approach was recommended with regard to decisions about the number of allowances to be allocated to the trading system in the aggregate and to each member-state (CCAP 2000, 53). More specific distribution decisions should remain at member-state level, with the Commission in an active watchdog role to ensure compliance with competition and state aid rules (FIELD 2000, 31). As to monitoring, verification and enforcement, a certain degree of harmonization of rules was deemed necessary for the effective functioning of the system. Furthermore, non-compliance should be addressed by strong, automatic financial penalties that should ‘far exceed the price of allowances’ (ibid., 33). The need for strict enforcement and compliance systems, particularly the need for high penalties, came from the body of US experience (CCAP/FIELD 1999). Relevant knowledge-building also took place within industry. The electricity industry’s Euro-federation EURELECTRIC was described by the Commission as ‘the elephant in the corridor’, as it was clear that the electric power producing industry would represent a core target group for the ETS.48 EURELECTRIC convened a workshop on a possible emissions-trading simulation exercise in February 1999 and decided to carry out such an exercise later in 1999 (EURELECTRIC 1999). Part of the inspiration for this initiative came from electricity industry delegates’ study of US sulphur trading in 1998.49 The initiative was termed GETS (Greenhouse Gas and Energy Trading Simulations) and Peter Vis from the BEST group was appointed to the GETS advisory board. A sort of ETS community was being formed. The electricity industry’s first GETS simulation (GETS I) was launched in May 1999.50 Over eight weeks in May/June 1999 16 virtual power companies traded both CO2 and electricity. It was concluded as a ‘striking lesson’ that trading did not guarantee

47 The experience with cap-and-trade was largely drawn from the acid rain programme on sulphur dioxide emissions and the Regional Clean Air Incentives Market (RECLAIM) on nitrogen oxides and sulphur oxides in the Los Angeles area. Experience with baseline-andcredit came from emissions credit trading programmes established for major pollutants since 1977 in the USA. 48 Interviews in Brussels, January 12–13 2006. 49 Interviews in Brussels, 12 January 2006. 50 The Climate Change Working Group of UNIPEDE/EURELECTRIC, in collaboration with the International Energy Agency and Parisbourse, agreed on a set of rules for the trading simulation.

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compliance by all participating sources (ibid., 25). This observation resembled the conclusion in FIELD/CCAP reports. At the GETS II simulation in February 2000, the number of participants was increased to 34, including companies from other energy-producing and intensive energy-using industries. An absolute versus relative cap was tested.51 Results of EURELECTRIC’s GETS II simulation were presented in early November 2000, contributing a more practical, bottom-up element to the developing body of knowledge on the design of effective emissions trading.52 The simulation indicated that different ways of allocating permits did not affect the environmental outcome, but did change the financial implications for firms. A primary benefit of emissions trading was to assist companies in deciding when they should invest in emission reductions. It was concluded that a carbon market alone would not provide sufficient incentives for significant development of renewable energy sources: green certificates or other instruments would also be needed.53 According to process insiders, the GETS simulations were not so influential on the thinking of the European Commission, nor even much known outside the electricity sector itself (although that sector is admittedly important). GETS was not used as a model for the EU system – rather the other way around: the electricity sector tried to guess and prepare for the coming design of the system.54 The European Parliament also became involved in the discussion on a possible EU ETS at this stage. When its Environment Committee debated EU emissions trading in September 1999, clearly diverging views were expressed by the Members of Parliament (MEPs). On the hand, some MEPs underlined the ethical aspect, viewing emissions trading as fundamentally immoral (see Chapter 1). As noted in Chapter 2, the EP has generally been receptive to main ENGO positions, and the ethical perspective was emphasized by the ENGOs at the time. Other MEPs put forward a more pragmatic position, stressing that ‘the ends justified the means’. BEST’s man Jos Delbeke was there, pointing out the common ground between the Commission and the EP, as both were trying to find a pragmatic approach that could also uphold the EU’s reputation on climate change.55 Signalling a changing attitude of the green movement towards emissions trading, German Green MEP Hiltrud Breyer stated to Europe Environment that ‘the proposal seeking to create a Community emissions trading system is a step in the right direction, but only if the

51 EURELECTRIC 2000; ENDS Daily (14 February 2000), ‘Euro-climate Gas Trading Simulation Extended’, Issue 700; Europe Environment (22 February 2000), ‘Power Industry to Carry Out New Emissions Trading Simulation Exercise’, 562, 8. 52 The GETS II simulation had ended up by including 40 companies in six industrial sectors operating in 16 countries. Three simulated 15-year trading periods were run. 53 EURELECTRIC 2000; ENDS Daily (8 November 2000), Second Euro-CO2 Trading Experiment “a Success”’, Issue 870. 54 Interviews in Brussels, 12–13 January 2006. 55 Environment Watch (17 September 1999), ‘Parliament Split over Tradeable Emission Permits’, 14–15.

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system is flanked with stringent conditions and it involves monitoring arrangements and includes penalties’.56 Emissions trading within the EU would apparently be easier to accept for ENGOs and the EP than international emissions trading. An EU ETS would not carry the same moral hazards as international emissions trading, since it would be based on trade between industrial countries with ‘real’ commitments (not ‘hot air’), and trading as such does not ‘exploit’ less developed countries.57 As noted, the Green Paper was presented on 8 March 2000, complemented by the launching of a Communication on EU policies and measures to reduce greenhouse emissions.58 Seen in combination, these documents meant that the EU was drawing up a ‘twin-track plan’ to reverse the worrying trend of increasing greenhouse gas emissions and remain credible as a global leader in the fight against climate change.59 The other track – ‘policies and measures’ – comprised some 30 possible policy and control measures. These included energy efficiency standards for electrical equipment; transport pricing and economic instruments for aviation; energy audits and heating performance certificates; increased use of combined heat and power generation and a harmonized energy products tax, the adoption of which was still seen as of ‘utmost importance’.60 However, this tax proposal was significantly less ambitious than the carbon/energy tax proposed in the early 1990s (Wettestad 2001). To further develop this ‘twin-track’ approach the Commission proposed the establishment of a ‘European Climate Change Programme’ (ECCP).61 Clearly, the most important development in this phase were the inputs from the external consultants FIELD and CCAP, echoes of which can be noted throughout the Green Paper. In addition to some direct, explicit references to the reports, the general observation is a general correspondence between main recommendations put forward by the consultants and the design preferences expressed in the Green Paper. The other major development in this period was that the main target group 56 Europe Environment (21 March 2000), ‘Climate Change: Commission Floats European Programme and Emissions Trading Plan’, 564, 1–3. 57 We would like to thank Sebastian Oberthür for pointing this out. 58 European Commission (8 March 2000), COM(2000)88 final, Communication from the Commission to the Council and the European Parliament on EU Policies and Measures to Reduce Greenhouse Gas Emissions: Towards a European Climate Change Programme (ECCP) (Brussels). 59 International Environment Reporter (15 March 2000), ‘“Twin track” Plan to Reverse Rising GHG, Meet Kyoto Aims Includes Trading Scheme’, 23:6, 223–4.; Europe Environment (21 March 2000), ‘Climate Change: Commission Floats European Programme and Emissions Trading Plan’, 564, 1–3. 60 European Commission (8 March 2000), COM(2000)88 final, Communication from the Commission to the Council and the European Parliament on EU Policies and Measures to Reduce Greenhouse Gas Emissions: Towards a European Climate Change Programme (ECCP) (Brussels), 4. 61 Ibid.; International Environment Reporter (15 March 2000), ‘“Twin track” Plan to Reverse Rising GHG, Meet Kyoto Aims Includes Trading Scheme’, 23:6, 223–4.; Europe Environment (21 March 2000), ‘Climate Change: Commission Floats European Programme and Emissions Trading Plan’, 564, 1–3.

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of the EU ETS – the power-producing industry – started to prepare for, and gain experience from, ‘virtual’ emissions trading. Crafting Agreement through Consultation The broad consultation process announced in the 1999 Communication then started in the wake of the Green Paper. A first and important EU-level element of this consultation process took place within the umbrella of the above-mentioned European Climate Change Programme, ECCP. Its Working Group 1 focused on ‘Flexible Mechanisms’, and in total ten meetings were held between July 2000 and 2001. According to Jurgen Lefevere (2005, 98–99), who was a member of the group, ‘these meetings served not only as a platform for different stakeholders to exchange views on the development of the trading regime, but also as a capacity-building exercise, as the exchange of opinions between the various participants helped clarify different concepts and approaches and generated new ideas.’ The mandate outlined two main phases in the work of the group. In the first phase, the group was to concentrate on the possible development of an EC-wide framework for emissions trading and the necessary regulatory framework. In the second phase, the group would concentrate on the link between emissions trading and Joint Implementation and the Clean Development Mechanism. The group was to ‘generate consensus on the appropriate basis for an EC policy framework(s), and on the appropriate role for the Community therein’. Where consensus could not be reached, differences of opinions were to be recorded.62 Furthermore, the mandate listed 19 main participants, all with one alternate, except for some of the Commission DGs which were set up with several alternates. All participants had one seat at the table, but alternates were also allowed to attend – which they mostly did.63 From the Commission, four DGs participated: three from DG Environment, including chairman Jos Delbeke and secretary Peter Vis; and one each from DG Enterprise, DG ECFIN (economic and financial affairs), and DG TREN (transport and energy). Then there were five national experts (from Austria, France, Germany, Sweden and the UK). Five industry bodies were included: EURELECTRIC, BDI (Bundesverband Deutscher Industrie – Federation of German Industries), ERT/UNICE, European Chemical Industry Council, and the Emissions Trading Group UK. Finally, environmental NGOs had three representatives. In addition to FIELD/Lefevere, the CNE and WWF were represented.64 This was a process carefully and deliberately steered by the BEST group. The BEST group sought to involve representatives assumed to be positively inclined towards emissions trading and those with a substantial interest in the issue. As stated by a well-informed Brussels observer, ‘WG1 was set up to achieve a positive

62 European Commission (5 June 2000), Mandate – Working Group 1 of the European ClimateChange Programme: ‘Flexible Mechanisms’ (Brussels). 63 Interviews in Brussels, 12 January 2006. 64 European Commission (5 June 2000), Mandate – Working Group 1 of the European Climate Change Programme: ‘Flexible Mechanisms’ (Brussels).

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outcome. If you did not show up twice you were out.’65 BEST people chaired the meetings, presented various background documents and wrote proceedings, and could hence to a certain extent frame the developing consensus within the group. The work programme of the group listed five main issues to be discussed: ‘objective setting’ (e.g. defining suitable objectives for sectors and entities and clarifying relationship to other directives such as the IPPC and Large Combustion Plant directives); ‘how to recognize early action’; ‘co-existence with wider trading schemes’; ‘regulatory infrastructure’: and ‘fair competition and internal market’.66 Six meetings were held during the second half of 2000. As mentioned, at the first meeting, the director of the Clean Air Market Division at the US Environmental Protection Agency presented the US SO2 and NOX trading schemes. WG chairman Jos Delbeke underlined that the group should have a ‘practical focus’ and prepare for a ‘learning-by-doing’ approach. The important thing was to get started. BEST’s man (and group secretary) Peter Vis presented a background document on ‘objective setting’.67 Discussions at the second WG1 meeting included an economic analysis of EU emissions trading, presented by BEST’s Peter Zapfel and indicating substantial economic benefits from an EU ETS. A background document on allocation methodologies and early action was also discussed. Here it was widely felt by industry representatives that auctioning and taxation would be completely excessive, threatening competitiveness.68 This was in contrast to the conclusion from the scoping papers. The second important element of the consultation process involved the responses to the Green Paper by the European Parliament, the ENGOs and industry. By this time, emissions trading had become generally accepted as a good idea, but actor positions varied significantly on design, harmonization and the role of emissions trading compared to other policy instruments. The EP’s stance on climate policy and the use of the flexible mechanisms was clarified in the Parliament’s plenary session in late October 2000. The MEPs insisted that an EU ETS would have to be flanked by other, more ambitious measures. Emissions trading and flexibility mechanisms in general should be no more than supplementary instruments, and a global 50 per cent ceiling on the use of such mechanisms was suggested. With regard to the design of trading, quantified GHG abatement targets should be set in advance for EU emissions trading, by country and sector, and based on auctioning of permits. The EP called for the introduction of legally binding measures to oblige member-states to adhere to their quotas. The Commission should put forward a draft directive to this end under the co-decision procedure which would impose sanctions in cases of non-compliance. In the debate in the Parliament, environment commissioner Margot

65 Interviews in Brussels, 13 January 2006. 66 European Commission (5 June 2000), Mandate – Working Group 1 of the European Climate Change Programme: ‘Flexible Mechanisms’ (Brussels). 67 European Commission (28 September 2000), ECCP Working Group 1, Summary Record of Meeting July 19 2000 (Brussels). 68 European Commission (28 September 2000), ECCP Working Group 1, Summary Record of Meeting September 26 2000 (Brussels), 3. Meetings three to six did not, as far as we can see, produce any specific conclusions.

Table 4.1

Main non-state actor positions on the emerging EU ETS

Non-state actor Welcomes EU ET? responses to Green Paper

Common for certain sectors?

Overall amount of allowances agreed at EU level?

Allocation method and agreed at EU level?

Monitoring and enforcement at EU level?

Degree of harmonization

CNE (leading ENGO) UNICE (industry overall) EURELECTRIC (power producers) OGP/EUROPIA (refineries)

Yes, but cautiously

Yes

Yesa

Yes, auctioning

Yes

Centralizeda

Yes

Yes

No

_

Yes

Mixed

Yes

Yes

No

Yes

Mixed, but strong centralized element

Yes, but dep. upon Kyoto P. entry into force Yes

No, voluntary participation

_

Yes, combination of grandfathering and auctioning. Yes, grandfathering.

_

No

No

Yes, but no penalties Mixed, but strong for non-compliance decentralized element _ Decentralized

Yes

Yes

No

No, grandfathering.

No

Mixed

Yes

Yes

No

Unclear

Yes

Mixed

Only reluctantly; VAs preferable

Unclear

Unclear; pro et contra

Unclear

Yes, but preferably at global level

Unclear; Mixed?

EUROFER (steel) CEMBUREAU (cement) CEPI (pulp and paper) CEFIC (chemicals) a

Implicitly Source: European Commission (14 May 2001), Green Paper on Greenhouse Gas Emissions Trading within the European Union: Summary of Submissions. Part I: Non-governmental submissions (Brussels: Peter Vis, Climate Change Unit, European Commission).

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Wallström emphasized that the Commission wanted to have an open mind towards the trading instrument and advocated a prudent, cautious, step-wise development with a target date of 2005.69 As mentioned, the 2000 Green Paper included ten questions to stakeholders, directed mainly toward the level of harmonization. Some 70 non-state actors commented upon the Green Paper and replied to the questions. The responses of representatives of main EU ETS non-state actors are summarized in Table 4.1. The central ENGO Climate Action Network Europe (CNE) stated in its October position paper: ‘CNE considers that a well-designed EU emissions trading system is a potentially useful measure towards meeting the EU’s vital Kyoto Protocol target’.70 Beyond that, the CNE echoed the critical perspectives voiced by the European Parliament’s rapporteur. According to the CNE, the Commission’s ET plan was ‘too narrow’. Instead of confining itself to a downstream approach covering intensive energy users, a more comprehensive upstream system should be considered, as emissions were increasing alarmingly – for instance in the transport and domestic and tertiary sectors. Similar to the European Parliament, CNE also expressed fears that emissions trading could relegate policies and measures to the back seat.71 In general, ENGOs argued in favour of robust environmental effectiveness, requiring strict targets and good monitoring, verification and compliance functions to be exercised at Community level. They generally favoured auctioning of allowances, and trading with absolute targets for participating entities.72 Somewhat more soothing for the Commission and the BEST group was the response to the Green Paper from some industry federations that were included as target groups for the EU ETS in the Green Paper. Apart from the chemicals industry, all industries welcomed the Commission’s idea of an ETS. However, business was united in not wanting an emissions trading system to place European businesses at a competitive disadvantage. They were also concerned that industry should not bear an unreasonable burden in relation to other sectors (like transport and households), for which other policies and measures should be developed. As to sectoral scope, industry was fairly united in wanting as broad coverage as possible, in terms of sectors and of greenhouse gases. With regard to the allocation of permits, industry saw auctioning as equivalent to taxation, and generally preferred allocation by grandfathering. As to differences within the industry group, the power industry (EURELECTRIC) submitted one of the most elaborate responses, partly drawing upon experience from the GETS simulations. Also the response from CEMBUREAU was quite elaborate. In general, the electricity industry leaned somewhat more towards a centralized 69 Europe Environment (31 October 2000), ‘Climate Change: Parliament Urges EU to Take Lead in Kyoto Follow-up’, 577, 1–2; International Environment Reporter (8 November 2000), ‘European Parliament Backs EU Move on Climate Strategy Despite U.S. Stance’, 23:23, 853–4. 70 CNE (2000), ‘Emissions Trading in the EU’, position paper, October (Brussels: CNE), 1. 71 Ibid. 72 European Commission (14 May 2001), Green Paper on Greenhouse Gas Emissions Trading within the European Union: Summary of Submissions. Part I: Non-governmental submissions (Brussels: Peter Vis, Climate Change Unit, European Commission).

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approach, while the others leaned more towards decentralization. It was the oil industry (EUROPIA) that stressed decentralization and flexibility most strongly, arguing for voluntary participation and for no penalties in cases of non-compliance. The main industrial sceptic to EU emissions trading was clearly CEFIC, representing the chemicals industry. CEFIC argued that exposure to international competition, along with dependence on energy, made this industry particularly vulnerable. Longterm voluntary agreements towards energy efficiency would be better. Responses to the Green Paper were eventually published on the Commission’s website and ran to over 700 pages, with the vast majority coming from businesses and industrial associations likely to be affected by the system. Ten member-states plus Norway had also submitted position papers (see Table 4.2), as had a few ENGOs. The Commission’s summary of submissions from non-state stakeholders concludes: ‘Given the considerable number of submissions, and the diversity of the views expressed within them, it is difficult to “distil” any over-riding conclusions of a very specific kind. Beyond the basic favouring of trading as an instrument, there are few areas of consensus among the opinions expressed’.73 As indicated above, however, some patterns of agreement and disagreement may be discerned. Conclusions We may conclude that the European Commission took the initiative, built up knowledge based on external expertise, and crafted support among stakeholders. One important reason behind the Commission initiative was the change in personnel within the Commission’s environment directorate which took place shortly after the adoption of the Kyoto Protocol. Most of the ‘command-and-control’ staff who had worked on the climate change unit left, including the staff leader. Economist Jos Delbeke moved into a leading position within the group working on climate change, and other economists were recruited to Delbeke’s new ‘Bureaucrats for Emissions Trading’ (BEST) team. Major industry federations cautiously supported emissions trading, and oil major BP adopted its own company internal emissions trading system. The Commission built up its knowledge base on emissions trading by contracting the external consultants FIELD and CCAP, which produced seven scoping papers and two summary reports on design issues. Most of their recommendations found their way into the 2000 Green Paper. Finally, the Commission crafted support by affected actors. Compared to for instance taxes, emissions trading was clearly easier to sell to industry. Between March 2000 and January 2001, important learning and legitimization took place in the ECCP WG1. This group was partly handpicked by the BEST group to promote consensus on main EU ETS design issues which could underpin the fleshing out of a specific and comprehensive directive proposal, although all participants were not initially expected to favour emissions trading. Responses to the Green Paper showed that most industries and ENGOs welcomed an EU ETS in principle as a good idea. Beyond that, views differed on design and harmonization. For instance, ENGOs were generally somewhat more cautious, preferring a more 73 Ibid., 1.

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centralized approach than industry. Most sceptical among the industrialized nonstate actors was the chemicals industry. Positions of EU Member-states The international climate regime introduced the idea of emissions trading to the EU. This was picked up by the European Commission, which initiated and developed the idea of an EU ETS in alliance with experts and parts of the industry. What role did the member-states play in this process? The extent to which the Commission’s entrepreneurial behaviour can be seen as independent depends on whether the Commission acted on a request from specific member-states and anticipated broad-based support for emission trading. In that case, it could be argued that the Commission primarily served as an agent for national governments rather than providing autonomous input. In order to assess the role of the member-states in the initiation phase, we will analyse their positions individually and jointly in the Council of Ministers. In examining the change in interests and preferences, we will distinguish between the period from the 1997 Kyoto Protocol to the 2000 Green Paper and the memberstates’ response to the Green Paper. The preferences of the member-states became more specific in the latter period, as they then had to take a stance on different design options. From Kyoto to Green Paper In contrast to the case of the USA, the EU member-states had scant knowledge and no experience with emissions trading in the field of environmental policy. This meant that they had to form their preferences after the Kyoto Protocol, which in turn means that the preferences of most of the member-states evolved, rather than changed, in this phase. Here we focus particularly on the three largest EU members – France, Germany and the UK – as they count more than smaller states in terms of number of votes in the Council of Ministers and share of the emissions-allowance market.74 Member-states will be categorized as to whether they supported, opposed or were indifferent to emissions trading. Supporters Shortly after the Kyoto Protocol, the UK, the Netherlands and Denmark paid significant attention to emissions trading, clearly supporting it as a viable policy instrument. The UK and Denmark developed domestic ET systems and the Netherlands planned to do so. The most outspoken proponent was the UK, which had been most positive to international emissions trading during the Kyoto negotiations and had proposed the compromise leading to Article 17 on emissions trading in the Kyoto Protocol. Ever since the early 1990s, the UK had been very active in international and domestic climate policies. This activity and the ambitious domestic target of 20 per cent GHG reduction by 2010 must be seen in light of 74 It has also been argued that these states roughly represent the main groups of interests in EU climate policy (Schjølseth 1999).

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steadily decreasing emission projections. The UK had also increased its ambition from the initial Burden-sharing Agreement before Kyoto (–10 per cent) to the final agreement after Kyoto (–12.5 per cent). With the privatization of the electricity sector in 1990, subsidies to the British coal industry were removed, and in new gas-fired power plants replaced old coal installations. Britain’s decreasing emissions projections and actual emissions during the 1990s were thus mainly unrelated to climate policy (Collier 1997). The initiative to establish a domestic emissions trading system in the UK came from industry as it searched for alternatives to the government’s plan for a domestic carbon/energy tax (Jordan et al. 2003a, 189). In 1998, the Government’s Advisory Committee on Business and the Environment (ACBE) – composed of prominent members of UK business appointed by the Deputy Prime Minister and the Department of Trade and Industry – concluded that it was positive to explore emissions trading with the government (ACBE 1998). A task force established in March 1998 recommended a business-led initiative to design a ‘dry-run pilot’ domestic trading scheme with interested players as soon as possible, as a means of learning lessons for industry in the international scheme (Marshall 1998, 2). In 1999, British industry associations formed an Emissions Trading Group (ETG) to produce a blueprint for a fully functional scheme (Jordan et al. 2003a, 189). By this time, one prominent member of the group – BP – already had developed its own internal ET scheme. Emissions trading also assumed growing importance in official thinking as governmental officials started with practical discussions over emissions trading.75 In February 2000, the British Prime Minister and Deputy Minister gave their support for a domestic scheme.76 Launched in November 2001, the UK’s emissions trading system largely reflected the ideas developed by the ETG. After several delays, the UK started emissions trading in 2002. The UK was the principal leader on emissions trading within the EU, but the UK did not initiate or request a Community-wide emissions trading system, even though it had the opportunity to do so. The UK held the EU Presidency of the Council of Ministers from January to June 1998 and could have used this position to introduce emissions trading through the Council of Ministers. According to Deputy Prime Minister John Prescott, who chaired the Cabinet Committee on the Environment, the priorities for the UK Presidency were employment, crime and the environment, particularly climate change and air pollution.77 Agreement on EU burden sharing, emissions trading and carbon sinks like forests were priority climate-change issues. With regard to emissions trading, attention was directed towards private sector involvement in developing a domestic system.78 In contrast, the Council of Ministers was the preferred channel with regard to air pollution.

75 ENDS Report (October 1999), ‘Emissions Trading Proposals Keep Climate Change Policy in the Move’, Issue 297. 76 ENDS Daily (29 February 2000), ‘UK Environmental Tax Plans Panned’, Issue 711. 77 Financial Times (7 January 1998), ‘Green Light for the EU Presidency’. 78 Ibid.

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The UK had called together a Joint Council of Environment and Transport Ministers to discuss air pollution and transport policy.79 This indicates that the UK did not use the Council to request the Commission to take action on an EU ETS. In fact, the UK could not address emissions trading within the EU until the member-states agreed on the new burden-sharing system for the Community as a whole (Chasek et al. 1998). This agreement on how to divide the 8 per cent emissions reduction in the Kyoto Protocol was reached at the June 1998 meeting of the Environment Council. In June 1998, Austria assumed the Presidency of the Council of Ministers after the UK – but Austria was not enthusiastic about emissions trading (ibid.). The country holding the EU Presidency could also influence EU climate policy by chairing the meetings of the Ad Hoc Working Group on Climate Change. This informal group consisted of representatives from the climate unit in DG Environment and expert representatives from the member-states. In practice, however, it acted more as an instrument for the Commission than for the member-states. The recommendations of the Commission generally served as the starting point for discussions in the Ad Hoc group, as they were perceived as presenting the most member-state neutral propositions (ibid.). The UK government did not engage fully in the ET plans until 1999; moreover, the initial focus of the UK was a domestic system, not a Community system. The 2000 UK Climate Change Programme barely mentioned EU planning of a Community-wide system. However, it stated that the UK was working closely with the Commission and other member-states to take the Commission’s Green Paper on emissions trading further in the most appropriate way, on the basis of experience gained in setting up its own scheme (DETR 2000). In its comments to the 2000 Green Paper, the UK made it clear that it preferred a decentralized system with linking of national schemes rather than a harmonized system at Community level. Despite the UK’s emphasis on a domestic ETS, the early support of the British government and industry to the idea of emissions trading was politically important for the Commission. The UK has generally pushed for high member-state autonomy within the EU, and the UK contributed to kill the EU carbon/energy tax proposal in the early 1990s (Skjærseth 1994). Why then did the UK prefer emissions trading as a policy instrument for reducing emissions of greenhouse gases? First, many have underlined that Britain was generally open to market-based and flexible policy instruments in the 1990s. This has been explained by the market-led beliefs of governing political parties, economic recession in the early 1990s, growing receptivity to new ideas from the EU and more ambitious environmental commitments (Jordan et al. 2003a, 184).80 Support for emissions trading would also fit well with the UK’s opposition to the common EU carbon/energy tax. Resistance to taxes at EU level would make the UK more receptive to alternative economic policy instruments. 79 Ibid. 80 This new trend is different from Britain’s traditional policy style based on a long legacy of regulation. The UK began experimenting with voluntary agreements and marketbased instruments later than the Netherlands, Denmark and Germany (Jordan et al. 2003a, 179).

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Second, and perhaps most importantly, most influential domestic interest groups and agencies supported emissions trading in 1998 (Chasek et al. 1998). This included the London-based Foundation for International Law and Development (FIELD), which helped the Commission in analysing various design options for the EU ETS. Within the government, the Cabinet Committee on the Environment, the Department on Environment, Transport and Regions, Her Majesty’s Treasury and the Department of Trade and Industry all supported flexibility mechanisms including emissions trading. With regard to industry, climate policy in general and emissions trading in particular have been developed through consultation and negotiations with the British government. Even though parts of industry were sceptical,81 emissions trading was supported by the strongest industrial interests, among them the Confederation of British Industry, the ACBE and BP. Even the weakened UK coal lobby saw emissions trading as an instrument that might ease the impact of GHG reductions on coal use (Chasek et al. 1998). However, British ENGOs were sceptical or directly opposed to emissions trading. UK environmental pressure groups have generally tended to resist the adoption of market-based instruments on moral/ethical grounds (Jordan et al. 2003a, 183). Denmark has been one of the EU leader states with regard to voluntary agreements and market-based instruments (Jordan et al. 2003b). Legislation on emissions trading was drafted and discussed in May 1998. At the end of 1999, the Danish Parliament (Folketing) adopted a plan for domestic emissions trading that entered into force in 2001, covering all electricity producers operating in Denmark except producers relying exclusively on renewable energy. The number of producers and the volume of trade were, however, fairly low in initial phases (Pedersen 2000). To a large extent, the Danish system was developed independently of the initiation of the EU ETS. The Danes undersold their system, and it received scant notice outside particularly interested and informed circles.82 However, the Commission’s Green Paper on emission trading explicitly referred to the Danish system as an example of a domestic system for emissions trading.83 The Commission could thus add Denmark as a dedicated supporter to the idea of emission trading. The Netherlands, generally regarded as an innovative force and key player in EU environmental policy, has been characterized as a kind of theoretical frontrunner with regard to tradable permits in Europe (Zito et al. 2003). As early as in 1983, the Dutch government sent a delegation to the USA to explore the idea of tradable permits (ibid., 168). During the 1990s, emissions trading was discussed as a possible policy instrument for NOx and SO2. In 1998, the Confederation of Netherlands Industry and 81 ENDS Report (September 1998), ‘Energy Taxes and Emission Permits get Mixed Response from Business’, Issue 284. 82 Interviews in Brussels, 12 January 2006. 83 The CO2 Quota Act was part of a wider electricity reform for implementing the EU Electricity Market Directive which required notification to the Commission under state aid rules. The Commission raised several questions in late 1999 with the effect of delaying implementation of the Act. For example, the Commission considered grandfathering of emission allowances to be state aid (Pedersen 2000, 224). European Commission (8 March 2000), COM(2000)87 final, Green Paper on Greenhouse Gas Emissions Trading within the European Union (Brussels).

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Employers and the Dutch government anticipated that flexible mechanisms would be needed to meet national commitments.84 In spring 2002, the Netherlands announced its plans for a domestic emissions trading scheme,85 on the basis of recommendations from a Trading Commission composed of representatives from government, industry and ENGOs. This Commission had a domestic perspective rather than an EU-wide one (Zito et al. 2003, 169). The recommendations of the Dutch Commission differed significantly from the Commission’s ET proposal. For example, the Netherlands preferred a relative-target approach rather than an absolute-target one. Also Sweden and Ireland undertook preparatory work for establishing domestic emissions trading systems in this period (Oberthür and Tänzler 2007). Accordingly, the Commission could add these two countries as potential supporters of an EU system. Ireland established an Advisory Group on Emissions Trading in 1998 and Sweden appointed an expert group on the flexible mechanisms in the Kyoto Protocol in 1999. Opponents and indifferents The remaining EU members either opposed or were indifferent to the idea of emissions trading. But they had to accept that international emissions trading formed part of the Kyoto Protocol, and their preferences on a Community-wide system evolved in response to various proposals put forth by the Commission. France was one of the most outspoken opponents of emissions trading. During the Kyoto negotiations, strong criticism emerged against the US proposal (Tangen 1998, 4; Chasek et al. 1998). However, French opposition was softened shortly after the adoption of the Kyoto Protocol, as most governmental agencies perceived emissions trading as a fait accompli within the Kyoto Protocol (Chasek et al. 1998, 37). On the other hand, emissions trading was not of any importance to French climate policy. When France presented its National Plan to Combat Climate Change in January 2000, the centrepiece was a proposal for an energy tax reform. The plan underlined that other policy instruments, such as emissions trading, would require agreement at EU level (ibid.). According to Szarka (2003, 112), France adopted a ‘wait and see approach’ to initiatives from the Commission, and emissions trading did not make any impact until the adoption of the EU ETS. Emissions trading did not fit with traditional French policy style. France is often considered to have a ‘strong’ central state based on intervention and command-andcontrol approaches (Schjølseth 1999, 60). For example, it has resisted liberalization of the energy sector and privatization of energy companies. This top-down style is, however, combined with a pragmatic bottom-up style of implementation – a ‘dual policy style’ (Szarka 2003). ‘New’ environmental policy instruments such as voluntary agreements thus have a long history in France. With regard to economic policy instruments, France has traditionally viewed taxation as most appropriate; it supported efforts to introduce a carbon/energy tax in the EU. 84 ENDS Daily (8 January 1998) ‘Dutch Industry Worried by Environmental Plan, Issue 219; ENDS Daily (23 June 1999) ‘Netherlands Allocates Climate Commitments’, Issue 558. 85 ENDS Daily (16 April 2002), ‘Netherlands Backs CO2 Emissions Trading’, Issue 1197.

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Various ministries and agencies, however, had differing positions on emissions trading (Chasek et al. 1998). The Ministry of the Environment and the Ministry of Foreign Affairs were most sceptical, whereas the Ministry of Economics and Finance and the Ministry of Industry were most supportive. After Kyoto and several studies concluding that emissions trading could be beneficial for France, the Ministry of the Environment became more supportive. In addition, industry, including Elf Aquitaine and the Unions, preferred emissions trading rather than taxes. French ENGOs working on climate change opposed emissions trading. However, environmental awareness in general (on climate change in particular) has been less pronounced in France than in Northern Europe (Schjølseth 1999, 60). France relies highly on carbon-free nuclear energy. In the mid-1990s, nuclear energy provided over 80 per cent of the country’s electricity generation and 40 per cent of its primary energy production (ibid., 59). In 1990, France had one of the lowest CO2 emissions per capita in the industrialized world. Accordingly, the reduction target for France in the EU Burden-sharing Agreement was fixed at the modest level of zero per cent. Whereas this energy-economic situation should point towards relatively high abatement costs and support for cost-effective emissions trading, it has been argued that this made emissions trading less attractive, as it would lead to higher uncertainty over diversification of energy sources (Szarka 2003, 112). For example, strict caps on emissions could make the introduction of gas-power stations more difficult. Like France, Germany opposed emissions trading prior to the Kyoto Protocol (Chasek et al. 1998; Wurzel et al. 2003). Germany’s opposition was rooted in broadbased consensus among governmental agencies, industry and ENGOs, stemming mainly from the view that climate policy should be based on domestic reductions of GHGs (Chasek et al. 1998, 28). After Kyoto, Germany accepted the fact that emissions trading formed part of the Protocol. Emissions trading had been discussed in academic circles since the 1970s, and the Federal Ministry for the Environment had made some half-hearted efforts to introduce emissions trading in the 1990s (Wurzel et al. 2003, 129). Nevertheless, Germany did not establish a working group on emissions trading until October 2000 – and that came in response to the initiative of the European Commission (Watanabe 2005). According to Wurzel et al. (2003, 127), the Ministry for the Environment and the Ministry for Economics and Labour used the threat of an imposed EU emissions trading directive to set up the working group. Imposition of emissions trading on Germany could not be ruled out under the qualified majority procedure. The German Emission Trading Group, with broad representation from ENGOs, industry and federal and regional government, was deeply split among different industry sectors (Bang et al. 2004). Emissions trading lacked broad social acceptance. Germany would become the most severe obstacle to adopting a binding EU ETS in the decision-making phase (see Chapter 5). German climate policy developed within an interministerial working group involving ten ministries and chaired by the BMU – the Federal Ministry for the Environment, Nature and Nuclear Safety, to give its full title. Shortly after the Kyoto Protocol, the BMU commenced work on formulating a new position on emissions trading under Article 17 of the Kyoto Protocol (Chasek 1998, 31). This process led to the establishment of the working group on emissions trading in 2000. Traditionally,

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Germany has relied on command-and-control based technology standards in environmental policy. In climate policy, Germany refrained from a domestic tax regime because that could create competitive disadvantages for German industry.86 Voluntary agreements with industry became the most important policy instrument in German climate policy. The first voluntary agreement between the German government and industry was made in 1995 and then revised in 1996 and 2000. It covered about 80 per cent of CO2 emissions from the industry and energy sector. The first revision was due to severe shortcomings and criticisms, in particular from ENGOs. For example, the 20 per cent reduction target was related to a base year set to 1987 – three years before the reunification of Germany. This goal could be reached solely by energy efficiency improvement in the new Länder. The baseline was thus changed to 1990 in the 1996 agreement (Watanabe 2005). Still, the agreement was criticized for being unambiguous and vague (Wurzel et al. 2003, 130). In essence, German industry was not obliged to undertake costly investments to reduce emissions of GHGs. The agreement was updated in October 2000 in the context of Germany’s fifth climate protection programme. Specific CO2 emissions per produced unit are to be reduced by 28 per cent by 2005 and by 35 per cent for all Kyoto gases by 2012. Despite these ambitious targets, even this agreement has been characterized as ‘very convenient’ for industry since there are no emissions targets at the company level (Michaelowa et al. 2005). This agreement shows that the German government and industry intended to continue with voluntary agreements as the core instrument in climate policy despite the plans of the European Commission. The voluntary agreement was signed more than half a year after the Commission presented its Green Paper on emissions trading. Emission trading based on caps and strict enforcement was expected to increase abatement costs for German industry. Energy-intensive industry, the chemical industry in particular, fiercely opposed emissions trading and argued strongly in favour of continuing the use of voluntary agreements. In late 200l, the chemical industry even walked out of the working group on emissions trading (Wurzel et al. 2003, 128). As noted, the chemical industry at European level stood forth as most negative to the Commission’s Green Paper, even if parts of French chemical industry wanted the inclusion of industrial greenhouse gas emissions. Emissions trading was supported by a few other industries and companies, among them banking, and the German affiliates of Shell and BP. After Kyoto, German ENGOs developed a quite positive stand on emissions trading (Chasek et al. 1998; Wurzel et al. 2003), which can probably be understood in light of the preference of energy-intensive industry for ‘soft’ voluntary agreements and its opposition to emissions trading. In the mid-1990s, Germany was among the EU members with relatively low abatement costs (Torvanger et al. 1996, 176). Estimates show that the country’s marginal emission reduction costs of reaching the Kyoto targets are below the European average, as Germany has abatement options available that have already been exploited by other EU countries (Michaelowa et al. 2005, 108). German energy 86 Industry managed to get far-reaching exemption from the ‘ecotax’ introduced by the Greens and the Social Democrats which won the 1998 federal elections.

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production is still heavily based on fossil fuel consumption, which opens up for lowcost reductions. In addition, reunification with the former DDR led to the closure of energy-intensive and inefficient industries. From 1990 to 1995, German CO2 emissions decreased by 43.6 per cent in the eastern Länder, compared to a 2 per cent increase in the old Länder in the same period. Still, there remained a considerable potential for low-cost reductions (Schjølseth 1999, 54-55; Hasselmeier and Wettestad 2000). This energy-economic situation can help to explain why Germany insisted on domestic measures and why it had to reduce emissions by 21 per cent according to the EU Burden-sharing Agreement. The remaining EU members appear to have been neutral or directly indifferent to the idea of emissions trading in Europe. These countries did not plan for domestic or European ET schemes, had very little knowledge of emissions trading and did not voice either strong support or opposition to the emerging EU ETS. The Mediterranean states of Greece, Portugal and Spain clearly fall into this category. None of them responded to the Green Paper on emissions trading presented by the Commission in 2000. Collective response to the emerging ET idea Seen from the perspective of the Council of Ministers’ discussion of a Community-wide strategy on climate change from the time of the Kyoto Protocol to the publication of the Green Paper, the impression that the Commission sat in the driver seat is further strengthened. With regard to policies and measures, the minutes of Council meetings in this period show that it was the Commission that took the initiative and set the premises for discussions on emissions trading. In February 1998, the Commission and the Presidency (then UK) informed the Council on the consequences of the Kyoto Protocol for energy. Some member-states requested concrete measures that should be cost-effective, whereas the majority ‘looked forward to receiving the Commission’s proposal in this regard as soon as possible’.87 The European Commission forwarded to the Council a Commission staff working paper on energy policy options for responding to climate change. Discussions during the spring of 1998 were based on a list of areas under study for possible common and coordinated policies and measures in the field of energy. Various policy instruments were included, such as regulations and taxes.88 In May, the Council welcomed an expanded list of policies and measures presented by the Commission, including certification, labelling and long-term voluntary environmental agreements. Particular attention was paid to economic policy instruments: ‘ … the list of possible policy measures included appropriate energy fiscal measures, economic incentives and other similar economic measures to help reduce emissions’.89 The ‘other similar economic measures’ were not specified, 87 Council (16 February 1998), 6030/98, Subject: Energy and Environment: Climate Change – the Energy Response to Kyoto. Report of Working Party on Energy on 10 February. 1998. Brussels, 2. 88 Council (9 April 1998), 7618/98, Outcome of proceedings of Working Party on Energy on 7 April 1998. Brussels, 8. 89 Council (4 May 1998), 7988/98, Subject: Energy and Environment: Climate Change – the Energy Response to Kyoto. Report of Working Party on Energy. Brussels, 7.

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but the strong emphasis on economic policy instruments probably reflected the fact that responsibility for climate change in the Commission had by then been taken over by economists. In the autumn of 1998, when the Council’s attention centred on the upcoming CoP in Buenos Aires, it was nevertheless the integration of environmental concerns into other policy areas that was emphasized, in light of the European Council meeting in Cardiff.90 According to Council minutes, the Council did not even discuss emissions trading as part of EU policies and measures in 1998. That same year, the Commission suggested that ‘the Community could set up its own internal trading regime by 2005 as an expression of its determination to promote the achievement of targets in a cost-effective way’.91 In the spring of 1999, the Council continued to discuss policies and measures at both the international and the Community level. One option was the Commission’s proposal for a directive on a more pragmatic energy product tax that would foresee a gradual increase in taxation level. This proposal was a response to the failure to get the carbon/energy tax adopted, with its high rates of taxation and a high degree of harmonization. In addition, strategies for environmental sector integration and programmes for energy efficiency and renewable energies were discussed. Moreover, the Council urged the Commission to submit further proposals on common measures.92 This request must be seen in light of the trend towards rising emissions, which did not resonate well with Kyoto commitments. The Commission then presented the 1999 Communication on the implementation of the Kyoto Protocol in which the idea of an EU ETS was taken further by announcing the Green Paper on emissions trading in 2000. At the Council meeting in October 1999, the Council welcomed the Communication in general. Without commenting on emissions trading in particular, it called upon the Commission to strengthen and speed up its efforts in developing and implementing common and coordinated policies and measures.93 In the spring of 2000, the Commission launched the European Climate Change Programme and presented the Green Paper on emissions trading. The Council responded by welcoming that programme and noting: ‘The Council supports the approach followed by the Commission which aims at reinforcing policies and measures at Community level as soon as possible and at exploring proposals for developing emissions trading within the European Union’.94 The Council also 90 Council (28 September 1998), 11439/98, Subject: Community Strategy on Climate Change- Council Conclusions. Report from Permanent Representatives Committee to Council. Brussels. 91 European Commission (June 1998), COM(98)353, Commission Communication to the Council and the Parliament. Climate change – Towards an EU Post-Kyoto Strategy (Brussels), 20. 92 Council (2 March 1999), 6178/99, Subject: Community Strategy on Climate Change – Council Conclusions. Introductory note from General Secretariat to Permanent Representatives Committee. Brussels, 11. 93 Council (13 October 1999), 11871/99, Subject: Community Strategy on Climate Change – Council Conclusions. Information note from General Secretariat to Delegations. Brussels. 94 Council (23 June 2000), 9707/00, Subject: Community Strategy on Climate ChangeCouncil Conclusions. Information note from General Secretariat to Delegations. Brussels, 6.

Table 4.2

Member-states’ positions on the emerging EU ETS

Member-state responses to Green Paper

Welcomes EU ET?

Common for certain sectors?

Overall amount of allowances agreed at EU level?

Allocation method Monitoring and agreed at EU level? enforcement at EU level?

Degree of harmonization

Austria

Yes

Yes

Yes

Yes



Centralized

Belgium

Yes

Yes

Yes



Yes

Centralized

Denmark

Yes

Yes

Yes



Yes

Centralized

Finland

Yes





Yes



?

Franceb

Not clear



Probably

Probably

Partly

Probably centralized

Ireland

Yes

No

No

No

Partly

Decentralized

a

Italy

Yes

Yes

Partly

Yes

Yes

Centralized/Mixed

Netherlands

Yes

No

No

No



Decentralized

Sweden UK

Yes Yes

Probably No

– No

Yes No

Yes No

Centralized Decentralized

a

Italy opposed that total amount allocated to the trading sectors should be agreed at Community level, but was in favour of agreement on Community level of the amounts for individual sectors within each member-state. b The Commission’s comment to the French submission was that it raised more questions than it answered. Sources: Based on European Commission (8 March 2000). COM(2000)87 final, Green Paper on Greenhouse Gas Emissions Trading within the European Union (Brussels); European Commission (14 May 2001), Green Paper on Greenhouse Gas Emissions Trading within the European Union: Summary of Submissions. Part I: Non-governmental submissions (Brussels: Peter Vis, Climate Change Unit, European Commission); and European Parliament (11 October 2000), EP Report A5-0271/2000, Report on the Commission Green Paper on Greenhouse Gas Emissions Trading within the European Union. (Committee on the Environment, Public Health and Consumer Policy. Rapporteur: Jorge Moreira Da Silva. RR\422816EN.doc).

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welcomed the Green Paper on emissions trading, the consultation process, and the ‘learning-by-doing’ approach. Moreover, the Council concluded: ‘Emissions trading could play a substantial role in the implementation strategies that are being developed within the European Union and complement other relevant policies and measures, in particular as far as environmental agreements and relevant taxation are concerned’.95 In other words, the Commission had a lead of almost two years in its thinking about what an EU ETS should look like compared to most EU member-states. This gave the Commission a significant advance of superior knowledge. We can conclude this section by noting, first, that we have found no evidence that any of the member-states took the initiative to develop the EU ETS. The Council of Ministers requested the Commission to develop common and coordinated climate policies and measures, but emissions trading was not explicitly discussed until 2000. Second, the Commission could not initially anticipate any broad based support for an EU ETS. At the time the two first Communications were presented in 1998 and 1999, the Commission could count on explicit support from only a few member-states. Key EU states like France and Germany were reluctant. Member-state Responses to the Green Paper The Green Paper on emissions trading presented by the Commission in March 2000 laid the foundations for the EU ETS. The Commission argued for a common EU framework rather than a set of national emissions trading schemes. The Green Paper did not propose a specific regime, but aimed at initiating discussion on the level of harmonization and various design options. As noted, the Green Paper included ten questions to stakeholders, directed mainly towards the level of harmonization. Most member-states replied to the questions, although with varying degrees of elaboration and specificity, as shown in Table 4.2. Table 4.2 indicates that a slight majority of EU member-states now supported the idea of an emissions trading system in Europe. However, France was still reluctant and Germany, Spain, Portugal and Greece did not respond to the Green Paper. Germany was, as noted, deeply split on the issue and the Mediterranean members did not show much interest in either the EU ETS or other climate policies. According to the Burden-sharing Agreement, Portugal was allowed to increase its emissions by 27 per cent, Spain by 15 per cent, and Greece by 25 per cent. That means that nine member-states were positive to a European emissions trading system whereas six were negative or indifferent. This represented 47 votes for – far from the 62 votes needed to create a qualified majority.96 Moreover, the UK together with the Netherlands and Ireland preferred a decentralized system based on coordination between member-state driven schemes. With the exception of Denmark, none of the traditional ET supporters preferred a centralized system.

95 Ibid. 96 This interpretation – that the EU was far from a qualified majority in support of an EU ETS at this time – also found support in our interviews in Brussels, 12 January 2006.

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In addition, few member-states were specific as to the different design options, and preferences varied significantly among those that were specific: Denmark and Austria preferred an absolute target approach (cap-and-trade), whereas the Netherlands preferred a relative target approach (baseline-and-credit). Concerning coverage, Sweden preferred an upstream system, whereas others would rather have a downstream system based on power production and energy-intensive industry. As to allocation mechanisms, Austria and Denmark preferred auctioning, while France favoured grandfathering. Responses to the Green Paper clearly show that the Commission could not count on a qualified majority in favour of any emissions trading system at this stage. The positions of member-states on harmonization and design options were diverse and did not indicate any area of broad-based consensus. This implied a high level of uncertainty as to the type of system that could gain the necessary political support in EU decision-making bodies. Conclusion Why and how did the idea of an EU Emission Trading Scheme develop within the European Union? As the EU opposed emissions trading during the Kyoto negotiations, we have been looking for changes in both internal and external explanatory factors that might explain the turnabout of the EU. The first proposition put forth in this chapter was that the EU embraced emissions trading due to the Kyoto Protocol. More specifically, the EU institutions and actors initiated the idea of emissions trading in response to the climate regime. The observations presented in this chapter are in line with expectations according to this proposition (see Chapter 2). First of all, emissions trading had not been part of the EU negotiating position in Kyoto, but it nevertheless became part of the Kyoto Protocol in Article 17. This means that the Kyoto Protocol had a potential to affect the position of the EU. The same is true concerning the timetable for the development of the EU ETS. Second, the EU initiated emissions trading partly as a response to pressure from the Kyoto Protocol. References to Article 17 and the timetables were immediately included by the Commission in their 1998 and 1999 Communications on a EU strategy to achieve the Kyoto commitments. This strongly indicates that the European Commission was preparing to implement emissions trading by 2005 due to the provisions included in the Kyoto Protocol. Third, the Kyoto Protocol provided economic opportunities. The EU clearly had incentives to engage in emissions trading. The Commission emphasized the significant cost savings in meeting the Kyoto commitments that emissions trading could provide, compared to individual action. Administrative experience gained from a first-mover strategy was also stressed in the various documents prepared by the Commission in the wake of the Kyoto Protocol. Finally, the Kyoto Protocol enhanced learning by linking the active US promotion of emissions trading to the EU Kyoto commitments, and through detailed international negotiations on international emissions trading. The USA had been the main architect behind the inclusion of emissions trading in the Kyoto Protocol. The

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positive US experience with the sulphur dioxide emission trading scheme became important for ‘selling’ emissions trading as a good idea to EU member-states, industry and the green movement. US experience was also important in making the first choices on the basic design of the EU ETS. Only to a limited extent, however, can the initiation of the EU ETS be understood as a result of a horizontal diffusion process or of vertical legal pressure. Even though the idea of emissions trading originated in the USA, the independent effect of the Kyoto Protocol was important. The Kyoto Protocol facilitated learning about emissions trading by linking the idea to international GHG reduction targets. This became particularly important when the USA withdrew from the Kyoto Protocol in 2001. Initially, the EU ETS was not a result of direct legal pressure to implement the Kyoto Protocol. The Kyoto Protocol did not require emissions trading, and the Protocol was not legally binding at this time. The Protocol nevertheless put pressure on the EU because the EU institutions and actors expected the Kyoto Protocol to enter into force and they perceived the commitments as mandatory. However, the Kyoto Protocol affected the emerging discussions on design only to a very limited extent. CoP-4 in Buenos Aires in 1998 showed clearly that it would take a long time to develop the international rules and guidelines for emissions trading. The international rules and guidelines were finally agreed later than the proposal for an EU ET directive. Moreover, since the EU ETS was directed at company actions, it required a much more complex and sophisticated design than international emissions trading directed at governmental actions. The second proposition assessed in this chapter was that the European Commission changed its position and initiated the EU ETS independently of the EU member-states. This proposition was conditioned by converging and supporting positions among non-state actors in general, and industry in particular. Also this proposition found empirical support. The European Commission took the initiative, built up independent knowledge on design, and crafted support among internal stakeholders. Shortly after the Kyoto Protocol, DG Environment changed both personnel and position on climate policy instruments. Officials working on climate change in DG Environment who favoured command-and-control were replaced by economists who favoured economic policy instruments, and this BEST group managed to persuade environment commissioner Ritt Bjerrgaard to support emissions trading. This should be seen in light of the need for new policy instruments: it had become clear that the proposed directive of the early 1990s on the carbon/energy tax was not going to materialize, and the energy products tax of 1997 would have to be watered down considerably in order to meet the requirement of unanimity. Second, the European Commission was also the central actor in the process of developing the initial design of the EU ETS. The Commission launched a comprehensive study programme based on external expertise to strengthen its knowledge of emissions trading. This process served to clarify the basic design choices of an EU ETS, such as cap-and-trade instead of baseline and credit, and the crucial importance of effective monitoring, verification and sanctions in the form of strong penalties.

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Third, the Commission crafted support and consensus by initiating Communitywide consultation processes. These processes served just as much as a tool for the Commission to build up knowledge, capacity and support for the EU ETS as a channel for actors to have their say. The consultation process resulted in general support for the idea of emissions trading among Community institutions and nonstate actors. Beyond that, opinion varied widely on specific design features and levels of harmonization. Emissions trading was easier for the Commission to sell to industry than taxes – and it was also sold well. The Commission emphasized different aspects of emissions trading to different stakeholders. To industry, the instrument was framed as a costeffective tool that could even provide economic opportunities for shrinking emitters to sell allowances. To ENGOs (and the European Parliament), the instrument was framed as environmentally effective, as it would automatically lead to the target/ cap set (given various conditions). To governments, both these arguments were combined and linked to implementation of the Burden-sharing Agreement and the Kyoto Protocol targets. Emissions trading was thus ‘marketed’ as a magic formula for development and environmental protection. This formula proved effective in reducing resistance and building support within the Commission, the European Parliament, industry and ENGOs. Moreover, the Commission could count on support from the oil major BP (followed by Shell), which developed its own internal emissions trading system at the time. The fact that one of the largest multinational oil companies in the world, which made a livelihood from two of the main causes of anthropogenic climate change (oil and gas), could embrace emissions trading gave the Commission a powerful argument towards European industry in general. And major industry federations like UNICE and EURELECTRIC were cautiously positive. The third proposition stated that the member-states changed their positions on emissions trading. According to this proposition, the Commission did not act independently but on request from member-states and it anticipated broad-based support. This proposition gained little empirical support. First, initially it was only the UK, Denmark, the Netherlands, Sweden and Ireland that supported emissions trading within the EU. Most of the other 10 members either opposed it or were indifferent to the idea of an EU ETS. The early support of the UK was, however, politically important for the Commission as the UK had previously contributed to block the adoption of the common energy/carbon tax. The UK also had the formal opportunity to push for an EU ETS as it held the EU presidency in the spring of 1998. On the other hand, we have found nothing to indicate that the Commission introduced the EU ETS idea in 1998 in response to a request from the UK or any other member-states. Second, the Commission could not anticipate broad-based support for an EU ETS. Initially, the Commission could count on support from only a few member-states. Responses to the Green Paper indicate that votes for and against emissions trading in the year 2000 were roughly equal. Among those that were positive, positions varied widely on degree of harmonization and specific design principles. Third, the Council of Ministers did not seriously discuss the EU ETS until 2000. However, the Council of Ministers did (and with increasing intensity) request

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proposals from the Commission on effective policy instruments that could counter emission trends and bring the EU on a path towards complying with the Kyoto Protocol. In this sense, we could say that the Council indirectly ‘requested’ the EU ETS. These propositions vary in focus and empirical support, but all have something to contribute to increasing our understanding of what happened and why. Of them, it is clear that the proposition based on the intergovernmentalist approach gained least empirical support. Particularly two factors from the multi-level governance and regime approaches pull in the same direction for understanding the initial introduction of the idea in the spring of 1998: the inclusion of emissions trading in the Kyoto Protocol, and the change in Commission personnel in favour of emissions trading. These factors appear as necessary conditions for the introduction of the EU ETS idea in the June 1998 Communication. First, the Kyoto Protocol set the target and the timeframe and suggested a new cost-effective policy instrument that the EU would have incentives for implementing. Second, the new economists working on climate change in DG Environment favoured economic policy instruments at EU level and recognized the potential of emissions trading, particularly in light of the failure to get the EU carbon/energy tax adopted. Had it not been for those two factors, the EU ETS would probably not have been initiated, at least not so quickly. The international process also supported the development of the EU ETS by maintaining the momentum through the Buenos Aires Plan of action. This plan was envisaged to pave the way for the entry into force of the Kyoto Protocol at the Johannesburg Summit in 2002. In the next chapter, we shall see that this did not happen, and that the further development of the EU ETS would be affected by the US exit from the Kyoto Protocol. The EU ETS was initially framed as an instrument for implementing the Kyoto Protocol. In the next decision-making phase, we shall see that it also became an instrument for saving the Kyoto Protocol.

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Chapter 5

Deciding on EU Emissions Trading In this chapter, we narrow in on the decision-making phase of the EU Emissions Trading Scheme. This phase ran from 2001 to the adoption of the ET Directive in 2003 and the Linking Directive in 2004, which linked the EU ETS to international flexible mechanisms. The main question here is to what extent – and why – the member-states, the EU institutions and the climate regime affected the design and adoption of the EU ETS. We examine three propositions derived from three explanatory approaches: intergovernmentalism, multi-level governance and regime analysis. The first proposition focuses on the position of the member-states, and holds that the EU ETS reflects the interests and preferences of the member-states. The second proposition stipulates that the EU ETS reflects the positions of the EU institutions, rather than the positions of the member-states. Finally, we propose that the EU ETS is more a result of external than internal driving forces. In line with this assumption, we would expect the EU ETS to reflect developments within the climate regime and the international emissions trading system rather than internal processes. Positions of the EU Member-states As noted in Chapter 3, the key elements of the ET directive proposed by the European Commission in October 2001 remained intact during the negotiations that led up to the adoption of the ET Directive in October 2003, despite some design changes. In line with our proposition that the EU ETS came to reflect the positions of the memberstates, this suggests that they agreed to the Commission proposal. The reason could be either that they had changed their preferences from the consultation process on the Green Paper, when only a slight majority supported emissions trading and key countries such as France and Germany were reluctant – or that various member-state interests were taken into account by the Commission in its ET directive proposal. The main question to be explored here is thus the extent to which and how the common position and the final ET Directive reflected the interests and preferences of the EU member-states. Proposing the ET Directive Did the interests and preferences of the member-states change from the Green Paper to the ET directive proposal? In January 2001, DG Environment started to draft the ET directive on the basis of significantly diverging member-state positions. Less

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than a year before, member-state responses to the Green Paper on emissions trading had showed that there were few areas of common understanding as to what an ETS should look like (see Chapter 4). An ET directive proposal was planned before the resumed CoP-6 in Bonn in July. DG Environment finished the draft proposal in May and forwarded it to other DGs for interservice consultations. However, Environmental Commissioner Margot Wallström decided to postpone the proposal due to opposition from several industry lobby groups. A new round of consultation with industry, ENGOs and member-states (plus the European Economic Area (EEA) and accession countries) was convened on 4 and 10 September respectively. The consultation meeting with the member-states was structured by the presentation of key questions prepared by the climate change unit in DG Environment and based on the widely-leaked draft proposal.1 All invited stakeholders attended the meeting: 16 representatives from the Commission representing six different DGs, representatives from all member-states and most EEA and accession countries. The minutes from the meeting indicate a significant change in member-state positions towards convergence around a common EU ETS, compared to the responses to the earlier Green Paper.2 First, everyone supported the development of an emissions trading framework at EU level, and many member-states emphasized that national level schemes were not attractive. Second, the overwhelming majority favoured a system common to certain sectors based on a core harmonized list of activities. Third, there was general agreement that allowances should be allocated by the member-states within the constraints of the Burden-sharing Agreement. Fourth, there was widespread agreement that there should be a common method for allocation of allowances. Finally, a large majority supported common monitoring, reporting and verification standards and harmonized penalties for non-compliance. The reasons for the latter provision, which received strong support, were the market nature of emissions trading and single-market considerations (Meadows 2006, 92). Despite the agreement on the main structure of the proposed scheme, disagreement surfaced on some important design elements. Most importantly, there was disagreement on the legal nature of the scheme in the pre-2008 period. Some – particularly the UK, Germany and Finland – preferred an initial phase based on a voluntary scheme; others preferred a mandatory scheme. Second, there was no clear convergence around whether allocations should be based on payment (auctioning), be free (grandfathering) or a combination. Although a majority preferred allocation for free, a smaller group, led by Sweden, argued consistently for auctioning (Vis 2006b, 190). Third, some preferred that the common list of sectors could be extended voluntarily by member-states (‘opt-in’), whereas others preferred a harmonized way

1 ENDS Daily (25 June 2001), ‘EU Climate Trading Scheme Set to Emerge’, Issue 1016. 2 To our knowledge, there is no official record from this meeting with the memberstates. However, there is a draft summary record that gives the thrust of the main conclusions. European Commission (8 October 2001) Directorate General Environment Climate Change: Chairman’s Summary Record of Consultation Meeting with Member-States, EEA and Accession Countries. 10 September 2001. Brussels.

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of extension. Finally, positions varied on whether penalties should be based on only a common underpinning, or full harmonization. Germany’s federal government, which had not expressed its position on the 2000 Green Paper, submitted its position paper to the European Commission on 10 September. Germany emphasized the effectiveness of the national voluntary climate agreements and proposed a pilot phase with voluntary participation for both companies and member-states (Watanabe 2005). The German Emissions Trading Group (AG Emissionhandel, AGE), with broad-based participation from ministries, industry and ENGOs, was also invited to the stakeholder consultations in September, where it submitted a separate position paper. After intense negotiations, the group submitted a compromise position paper along the same lines as the federal government, arguing for a three-year pilot phase with voluntary participation. The position of the AGE was based on a compromise between industries that preferred to continue with the voluntary climate agreements and a few large companies that favoured emissions trading. These position papers showed that Germany was struggling to speak with one voice, as internal disagreement would weaken its negotiating position in the Council. At this stage, Germany did not reject any form of emissions trading at EU level, but Germany’s opposition to mandatory participation in the first phase of the scheme appeared quite robust. Despite Germany’s opposition to mandatory participation, the consultation meeting with the country representatives was described by the Commission as relatively ‘easy’ compared to the meeting with industry and ENGOs.3 Many memberstate representatives were passive, and the meeting was marked by significantly less disagreement than with the non-state actors. One reason may be that the memberstates would have better opportunities to express their views later in the Council of Ministers on the basis of a formal ET directive proposal. Or something may have changed that helped to unify the positions of the member-states. Besides a steady increase in knowledge on emissions trading (particularly among those memberstates which had established domestic ET expert groups), the most significant change from the year 2000 to 2001 was external: it came with the US elections and President George Bush’s rejection of the Kyoto Protocol in March 2001. This injected significant political energy into the climate policy of the EU and affected the collective will of its member-states, as discussed later in this chapter. DG Environment presented a new draft ET directive to other Commission services shortly after the consultation meetings in September 2001.4 The draft took a clear position on controversial aspects: the scheme should be binding in the pre-2008 phase; it should be based on allocation for free; and with common penalties for noncompliance. In addition, it included the possibility for member-states to temporarily exclude installations from the EU trading scheme. This ‘opt-out’ provision came as a result of pressure from industry, but was removed by Commissioner Wallström in 3 Interviews in Brussels, 15 May 2006. 4 European Commission (14 September 2001), Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC, (draft) version for interservice re-consultation (Brussels).

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the final ET directive proposal. The final proposal for an ET directive was presented by the Commission to the European Parliament and the Council in October 2001.5 As noted in Chapter 3, the final proposal was more decentralized than had been indicated by the Commission in the 2000 Green Paper. First and most importantly, allocation of allowances should be done at the member-state level and not at Community level. This was preferred by a majority of the member-states.6 Second, allocation should be free of charge – also preferred by a majority of the memberstates and most industries. Third, member-states could decide on whether to use independent verifiers of emissions, or do it themselves. Together, this shows that the basic positions of the member-states were taken into account in the proposal for a directive on emissions trading. This means that a combination of change in positions and influence by the member-states on the proposed ET legislation made an imprint even before the formal decision-making process started. Responses to the ET Proposal Despite draft proposals and consultation meetings, the formal proposal for an ET directive came as a surprise to some member-states. In Sweden, for example, decision-makers were both concerned and fascinated by this new instrument.7 Concerned, because the implications of the proposal were uncertain; fascinated, because the ET directive proposal represented a new and radical way of dealing with greenhouse gas emissions. The proposal for an EU directive on emissions trading was adopted by the Commission on 23 October 2001. At the Environmental Council meeting shortly after, the Council noted that it was ‘appreciative to the Commission for presenting a proposal for a framework directive for an EU greenhouse gas emissions trading scheme’.8 The first debate on the proposed ET directive took place in the Environment Council on 12 December 2001, where the Belgian Presidency submitted the following key questions to structure the discussion:9 (1) should the system be mandatory or voluntary in the initial phase (2005–07)? (2) which allocation method should be used and should it be harmonized for all commitment periods? and (3) as to coverage: should the directive initially cover CO2 alone? Could member-states freely add other sectors? Should emissions from the electricity generation sector be

5 European Commission (23 October 2001), COM(2001)581, Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC (Brussels). 6 A smaller group of member-states led by France and Belgium preferred a greater degree of harmonization (Vis 2006b, 188). 7 Interview with Ulf Sviden, 1 March 2006. 8 Council (29 October 2001), 12994/01, 2378th Council Meeting Environment. Presse372, 2001. Luxemburg, 7. 9 Council (6 December 2001), 15028/01, Report from Permanent Representatives Committee to Council. Questions prepared for policy debate on the EU ETS in Council (Environment) of 12 December 2001. Brussels.

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credited to the consumer or the producer? These questions originated from the points of disagreement at the September 2001 consultation meeting. Not surprisingly, the legal nature of the scheme triggered most disagreement. A majority of the member-states favoured a mandatory system. These countries argued that a mandatory scheme would ensure participation by affected industries and be least likely to distort competition.10 At this stage, the opponents formed a blocking minority, according to the Belgian environment minister who chaired the meeting.11 The opposition was led by Germany and the UK. For the UK, this issue was important, since its own domestic ET scheme was planned to be voluntary until 2007. In the case of Germany, the main source of opposition came from industry, where it was feared that the EU ET scheme could lead to higher abatement costs than the German voluntary climate agreements. It was already clear that that Germany and the UK would become two of the most important participants in the scheme – in fact, they came to represent 34.0 per cent of the total amount of allowances distributed by all the 25 member-states for the first trading period, 2005 to 2007 (see Table 3.2). The proposal for an ET directive was based on Article 175(1) and the co-decision procedure set out in Article 251 of the European Community Treaty. This legal basis provides for qualified majority voting in the Council and allows member-states to be outvoted (and the European Parliament to veto the proposal). The legal base chosen was the first line of defence by those most in opposition to the Commission proposal. They preferred Article 175(2), which can be used if measures are fiscal or significantly affect member-state’s choice of energy sources. If Article 175(2) had been chosen, the proposed ET directive would need to be adopted unanimously, a factor which led the energy/carbon tax to fail. Unanimity would have increased the influence of each member-state on the system, but reduced the likelihood that all would agree on the same system. In essence, unanimity would increase the risk of deadlock. At the Environment Council meeting in March 2002, the ministers adopted a legal instrument obliging the member-states to ratify the Kyoto Protocol. The legislation was proposed on the basis of qualified majority, even though some states argued that the law concerned energy policy, which requires unanimity. The Commission worried that changing the legal base could provide a precedent for similar changes in relation to the ET Directive.12 Shortly after, however, it was settled that Article 175(1) would be the legal base because the proposal did not, according to EJC case law, satisfy the conditions for 175 (2) (Meadows 2006, 65). Unanimity would have provided Germany and the UK with veto power over the proposed ET directive. This would most likely have resulted in a voluntary ET scheme or no EU ETS at all – as in the case of the EU carbon/energy tax. If a legislative proposal is significantly weakened by its opponents there is a risk that 10 Council (12 December 2001), 15060/01, 2399th Council Meeting Environment. Presse-459, 2001. Brussels. 11 ENDS Daily (13 December 2001), ‘EU States Divided Over Climate Emission Trading’, Issue 1123. 12 ENDS Daily (4 March 2002), ‘EU Gives Green Light to Kyoto Ratification’, Issue 1170.

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initial supporters may turn into opposition. However, as noted in Chapter 2, in the Council there is a norm of consensus-seeking and unanimity, despite the possibility of qualified majority is allowed for. This norm was particularly strong in the case of the ET Directive, as this was a totally new policy instrument with potentially significant economic implications for energy producers and energy-intensive industry. It was therefore important to get the directive adopted by unanimity. In practice, the ET Directive would not work well without the support of Germany as the largest emitter within the European Union. Although the final number of installations to be covered by each country in the system was not known at this stage, it was, as noted, already clear that German industry would represent a significant share of the EU emissions trading market. UK support was also substantially and politically important. Besides representing a significant amount of the relevant emissions within the EU ETS, the UK had supported the idea of emissions trading all the way. Political weight and control over a significant share of the sources covered by the ET system provided these countries with more power in the decision-making process than the qualified majority procedure would suggest. The other elements of the debate in the Council were less divisive.13 A vast majority of the member-states held that allocation of allowances should be free of charge so as to stimulate participation, and that the method of allocation should be harmonized and based on harmonized criteria to prevent distortion of competition. With regard to coverage, there was broad support for starting with CO2 and the sectors proposed by the Commission. However, a few wanted to include additional sectors on a voluntary basis, while others stressed that criteria for expansion should be harmonized at Community level. Finally, a large majority preferred that the costs should be borne by the electricity producers, in line with the ‘polluter pays’ principle. The President concluded by noting that: ‘ ... positions were not firmly fixed, since consultations were still under way in some member-states, which had therefore expressed preliminary views. ... many states were keeping an open mind and that positions could therefore change … ’.14 Germany The discussion intensified and became polarized in Germany after the ET directive proposal in October 2001. Mandatory participation was clearly not acceptable for most industries and governmental ministries and agencies. The strongest opponents included powerful industrial associations like the Federation of German Industries (BDI – Bundesverband Deutscher Industrie) and the Chemical Industry Association (VCI). These associations and major companies lobbied intensively against the ET directive proposal: they hired consultants to denounce the proposal, they sent letters to Chancellor Schröder requesting him to reject it, and the VCI placed full-page announcements in German newsmagazines stating that emissions trading would stifle investments and economic growth in Germany. And indeed, in response the Chancellor publicly voiced opposition to the ET directive proposal (Butzengeiger et al. 2003; Michaelowa et al. 2005). 13 Council (12 December 2001), 15060/01, 2399th Council Meeting Environment. Presse-459, 2001. Brussels. 14 Ibid., 14.

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Support for the proposal was forthcoming from only a few big companies, including subsidiaries of BP, Shell and to some extent the Hamburg Electricity Utility (HEW). According to Michaelowa et al. (ibid., 112), emission trading gained surprisingly little public support. On the other hand, an independent study showed that the big industrial federations were not necessarily as representative as they claimed to be. A survey of a sample of German energy intensive industry showed, among other things, that: (1) the level of knowledge on emission trading was very limited; (2) most companies did not anticipate that emissions trading would represent a significant cost-burden on their business (Santarius and Ott 2002). In light of the opposition from German industry and the support from a majority of the EU member-states, the German Ministry of the Environment (BMU), which supported the ET directive proposal, and the Ministry of Economics and Labour (BMWA), which opposed it, agreed on a common negotiation strategy (Watanabe 2005). This strategy was based on Germany’s official position as demonstrated in autumn 2001; it aimed at influencing the design of the scheme in a way that would allow Germany to continue with the voluntary approach – not to oppose the proposal in itself. The main elements of the strategy were voluntary participation and opt-out (Watanabe and Mez 2004). A voluntary scheme would allow countries, sectors or installations to decide whether to participate in the EU ETS or not. Opt-out allows for exclusion from a mandatory scheme by fulfilling certain conditions. This strategy was also supported by German MEPs at the first reading of the European Parliament in October 2002, showing that German industry had successfully lobbied the MEPs. As noted in Chapter 3, however, the final EU ET Directive did not conform with Germany’s preferences. The scheme finally adopted was mandatory and with very limited opt-out. The mismatch between Germany’s negotiating position and the final outcome indicates that Germany had to give in. Despite the country’s political and substantial negotiating power, the intense rivalry within Germany weakened its negotiating position and influence in the Council. With the qualified majority decision rule settled early in the negotiations and pressure from a majority of the member-states, Germany faced an uphill battle. On the other hand, it might be that Germany changed its position as a result of the federal elections held shortly before the Council agreed on a common position in December 2002. The coalition between the Social Democratic Party (SPD) and the Green Party had been in power since 1998. Before the federal elections of 22 September 2002, Environment Minister Trittin, with some Greens, and parts of the SPD supported the proposed ET directive, while the leader of the coalition government, Chancellor Schröder, opposed it. The conservative opposition, led by Edmund Stoiber (the Christian Democratic Union, CDU, the Christian Social Union, CSU, and the Free Democratic Party), apparently opposed the proposed directive (Watanabe 2005). The conservatives were widely expected to win the election due to economic recession and increase in unemployment. Disastrous flooding of the Elbe and Danube rivers in August placed environmental issues at the top of the election agenda and led to a boost in the polls for the SPD-

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Green coalition government.15 The extreme weather events – causing thousands of human injuries and significant economic damage – were also picked up by the EU Environment Council and linked to climate science predictions that such events would become more frequent and intense.16 This situation was exploited by the SPD, which accused Stoiber of failing to state his position on climate change and other environmental issues, and failing to nominate an environmental minister if the CDU/ CSU coalition should win.17 With the help of environmental issues, a second term was secured for the coalition government. The Greens entered the coalition talks in a stronger position than in 1998. The party polled 8.6 per cent of the vote (55 seats in parliament), up from 6.7 per cent (and 47 seats) in 1998.18 This would most likely strengthen environmental policies in the new coalition government. The coalition agreement was published on 16 October 2002. Here, the SPD-Green coalition accepted the proposed ET directive subject to certain conditions, including: measures taken since 1990 to reduce emissions of greenhouse gases in Germany must be taken into account; allocation of permits must be free of charge; use must be made of flexible instruments under the Kyoto Protocol; and most importantly: the scheme must be run in conjunction with the voluntary agreements, for example in the case of mandatory trading pools.19 According to Vis (2006b, 190), the coalition agreement sealed the situation whether auctioning was going to be a choice for the memberstates initially. The purpose of mandatory pooling was to allow the government to decide on participation in the pool with the aim of maintaining the voluntary climate agreements. This means that Germany had abandoned its opposition to a mandatory scheme, but argued for mandatory pooling which would make the ET Directive compatible with the voluntary climate agreements. Even though Germany accepted EU emissions trading in the coalition agreement, it shows that Germany had not changed its position before the adoption of the common position among the member-states in the Council: compatibility between an EU ETS and the German voluntary climate agreement. Discussions in the Council had to be postponed due to negotiations with Germany, which tried to influence the proposed EU directive right up until the common position was adopted in December 2002 (Lefevere 2005, 101). This is reflected in the ambiguity of the conclusions at the Environment Council meeting in October 2002: ‘The Council welcomes its political agreement reached today on the Directive … establishing a scheme for greenhouse gas emission allowance trading within the Community and … emphasizes the will of all Member-states to reach a political

15 ENDS Daily (30 August 2002), ‘Stoiber Strives to Recover the Green Initiative’, Issue 1276. 16 Council (17 October 2002), 12976/02, 2457th Council Meeting Environment. Presse320, 2002. Luxemburg. 17 ENDS Daily (15 August 2002), ‘Green Issues in German Election Spotlight’, Issue 1269. 18 ENDS Daily (23 September 2002), ‘Germany’s Greens Stroll Back into Power’, Issue 1292. 19 ENDS Daily (27 November 2002), ‘Germany Digs in over EU Emission Trading Plans’, Issue 1338; Watanabe 2005.

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agreement as soon as possible and at the latest at the December Council’.20 As late as in November, Federal Minister of Economics Wolfgang Clement stated: ‘emissions trading as proposed by the EU needs a critical look in the light of the exemplary way industry and energy firms have approached emissions cuts obligations for 2012 … German industry’s voluntary agreements must be taken into account’.21 Despite Germany’s insistence on continuing with the voluntary agreements in one way or another, it was able to influence the final directive only to a very limited extent. A mandatory emission trading scheme was agreed by all member-states in the common position adopted by the Environment Council in December 2002.22 The core elements of the scheme included its binding nature, the compulsory listing of the sectors of activity to be covered, the initial focus on CO2 only, and the emphasis on harmonized rules for allocating emission allowances and adequate monitoring, reporting, and verification of emissions, as well as penalty for non-compliance. The first phase of the scheme covers the period between 2005 and 2007, which precedes the Kyoto Protocol’s first commitment period from 2008 to 2012 corresponding to the second phase of the scheme. All this was in line with the proposed directive. The Council’s political agreement also shows that the member-states were able to affect the outcome. The agreement provided member-states with: • • •





the possibility to apply to the Commission for temporary exclusions of certain installations and activities until 31 December 2007 (opt-out); the possibility of unilateral additions of certain activities and gases from 2008 (opt-in); free-of-charge allocation of allowances for the first phase and at least 90 per cent free-of-charge allocation in the second phase, thereby making the use of some auctioning possible for member-states who choose to do so; ‘pooling of installations’: member-states may allow operators carrying the same activity to voluntarily form a ‘pool’ and nominate a trustee responsible for managing the allowances on their behalf; adjustment of penalties to operators – €40 in the first phase and €100 in the second phase for each extra tonne of carbon dioxide emitted and not covered by sufficient allowances.

The main concession given to Germany for its acceptance of a mandatory scheme was the ‘pooling’ provision, which ended up as a new Article 28 in the ET Directive. As noted, Germany proposed the inclusion of a provision that would permit sectors or all industry to pool their allowances and allow the German government, as a trustee, to manage the pool. Participation in the pool should be mandatory for the sectors participating in EU ETS. This proposal would imply that no emission trading would take place within Germany: it would have taken the system from the level 20 Council (17 October 2002), 12976/02, 2457th Council Meeting Environment. Presse320, 2002. Luxemburg, 18. 21 ENDS Daily (27 November 2002), ‘Germany Digs in over EU Emission Trading Plans’, Issue 1338; Watanabe 2005. 22 Council (9 December 2002), 15101/02, 2473th Council Meeting Environment. Presse379, 2002. Brussels, 7.

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of installations to the state level, and German industry out of the emission trading market (Lefevere 2005, 104). According to Article 28, member-states may apply to the Commission to allow pools that are not mandatory. Moreover, if a trustee fails to comply with the penalties under the regime, ‘each operator of an installation in the pool shall be responsible…in respect of emissions from its own installation’.23 Article 28 weakened the pooling provisions to the extent that they have not proven popular in practice and it is unlikely that the provision will be extended (Lefevere 2005, 105; Meadows 2006, 111).24 In essence, Germany had to accept an EU ETS that differed significantly from its own preferences. The UK The UK was the other main opponent to a mandatory EU ETS, but for different reasons than Germany. The UK domestic ETS started as planned in April 2002 after 34 companies took on reduction targets at an auction in return for incentive payment.25 The UK ETS would run to 2007, two years after the introduction of EU ETS. In November 2001, the European Commission cleared the UK plans while warning that there were substantial differences between the British and EU systems.26 One key difference was that the British scheme was voluntary. Additional differences included financial incentives to companies to participate, exclusion of electricity and heat generators, and coverage of all six greenhouse gases. The UK’s primary negotiation strategy was to persuade the Commission to develop the EU ETS in line with the British approach, but in this it was unsuccessful (NAO 2004). Like Germany, the UK then worked for a voluntary scheme which would allow for sufficient flexibility for the British scheme. In the end, however, the UK had to give in and support a mandatory EU ET scheme – which in turn meant amending its existing voluntary trading scheme to fit in with the EU trading rules. The concession made to the UK (and others) to ease the transition was the timeconstrained opt-out provision in the common position set forth in a new Article 27 of the ET Directive on the temporary exclusion of certain installations (Lefevere 2005, 104).27 As we shall see below, the European Parliament was able to change the scope of this provision from opt-out for both installations and activities, to installations only. For the first period of the EU ETS, the ET Directive allows for an opt-out at 23 European Parliament (25 October 2003), Directive 2003/87/EC of the European Parliament and of the Council of 13 October 2003 Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community and Amending Council Directive 96/61/EC, Official Journal of the European Union L 275, 32–46. 24 Article 30(2)(j) provides for an assessment and possible change in the pooling clause. 25 The UK scheme was immediately criticized for low environmental effectiveness. For example, it was argued that significant companies had already met their targets as a result of pollution control permit requirements. ENDS Daily (3 April 2002), ‘“Hot Air” Undermines UK Emission Trading Scheme’, Issue 1188. 26 ENDS Daily (28 November 2001), ‘EU Gives Amber Light to UK Emission Trading’, Issue 1112; Roeser and Jackson 2005. 27 However, it was actually re-introduced by Germany in the Council (Meadows 2006, 108). Re-introduced, because it had been removed by the Commission in the final round of preparing for the ET directive proposal.

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the request of an EU member-state. UK companies that wish to opt-out of the EU ETS can ask British authorities to put forward their request to the Commission.28 Approval under this provision is subject to a range of conditions, including that the UK provides evidence that domestic climate change policies are as stringent as under the EU ETS. In the final negotiations on the common position, the UK’s main objection to the proposed directive was that the Commission had the power to reject National Allocation Plans and applications to opt-out installations. The UK preferred a scheme that would leave application of the opt-out clause to the discretion of the member-states. However, the Commission retained the right of veto over NAPs, as per Article 9 of the ET Directive. As with the German pooling arrangement, the final opt-out provision is thus very limited. In practice, only three member-states have sought to use the opt-out clause: the UK, the Netherlands and Poland (Meadows 2006, 109). A second concession was specified in the new Article 29 of the ET Directive. Here, governments were given the right to apply to the Commission for extra allowances during the first three years in force majeure circumstances. It would be up to the Commission to determine whether force majeure was demonstrated. Despite these limited concessions, which left the final word to the Commission, in essence also the UK had to accept a system significantly different from its preferences. This interpretation is reinforced by a report of the UK National Audit Office concluding that integration with the European Scheme would be difficult (NAO 2004). Also other member-states had to adapt to the ET directive proposal. In February 2002, a multi-stakeholder Dutch panel recommended a national trading scheme. The Dutch trading commission was convened in mid-2000; it proposed a system close to the UK ETS.29 In April, the Dutch cabinet agreed to reject the Dutch proposal and to proceed within the EU framework.30 Some minor concessions were, however, given to other member-states. France, for example, had argued for a lower penalty for failing to meet the trading targets; the fine was reduced from €50 per tonne of CO2 in the ET directive proposal to €40 in the final ET Directive. The Danish Presidency As pointed out in Chapter 2, the EU Presidency can play an important role in crafting political solutions. On assuming the presidency in the summer of 2002, Denmark announced that climate policy and political agreement on the conditions for emissions trading were among the government’s aims within the area of environmental policy (Danish Ministry of Foreign Affairs 2002, 20). Agreement on the common position of the ET Directive was originally scheduled for the October Environment Council meeting, but had to be postponed due to German resistance. The compromise between the proposed ET directive and the common position was based on a draft prepared by the Danish presidency, including trading pools and limited opt-out the three first years.31 Denmark was in an exceptionally 28 Germany also supported the opt-out clause. 29 ENDS Daily (5 February 2002), ‘Dutch CO2 Trading System Proposed’, Issue 1151. 30 ENDS Daily (16 April 2002), ‘Netherlands Backs CO2 Emissions Trading’, Issue 1197. 31 ENDS Daily (9 December 2002), ‘Ministers Agree EU Climate Gas Trading Scheme’, Issue 1346.

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good position to lead the negotiations, due to experience with its national emission trading system. As it turned out, the ET directive proposal was much closer to the Danish domestic ET system than the British one. The Danish system was mandatory; it included the power sector; and focused on CO2 emissions only. The role played by the Danish presidency in crafting the common position has been acknowledged as one important condition for the political agreement reached in December 2002.32 First, the Danes had the will – they really wanted an EU emissions trading system that was close to the Danish domestic one. Second, the Danes had indepth knowledge of the ET directive proposal. Third, the Danish representatives were able to establish good relations with other countries and the Commission. Fourth, the Danes knew Brussels well and they knew that the Ministers could manage to deal successfully with only a limited number of outstanding issues. In the summer of 2002, three main important issues remained: whether the system should be mandatory of voluntary, coverage (scope of application), and how rights to pollute should be allocated.33 In a background note submitted prior to the December negotiations, the Danish presidency took for granted the binding nature, compulsory listing of sectors and the initial focus on CO2, and listed four issues as open to debate:34 • • • •

temporary exclusion of certain installations and activities; unilateral addition of certain installations and gases; the method for allocation in the second phase; pooling of installations.

The Danish strategy thus appears to have been to focus on the big issues of disagreement, given a binding system. Before Denmark, Spain held the EU Presidency (January–June 2002), with Greece coming after Denmark (January–June 2003). These countries did not push for an EU ETS and would probably not have managed to craft a solution in the autumn of 2002.35 The decision-making process on the proposed ET directive should also be seen in light of rising emission trends in the EU.36 In April 2002, the European Environmental Agency published new greenhouse gas inventory figures showing a 0.3 per cent rise in total GHG emissions from 1990 to 2000. EU emissions from 1990 to 2000 were down by 3.5 per cent of the percentage point committed by Kyoto, which implied 0.5 points from target midway between 1990 (Kyoto protocol base year) and the 2008– 12 compliance period. This trend continued in 2001, when overall emissions rose by one percentage point compared to 2000, and CO2 emission rose by 1.6 percentage points.37 32 Interviews in Brussels, 15 May 2006. 33 Council (25 June 2002), 10013/02, 2439th Council Meeting Environment, Presse-180, 2002. Luxemburg. 34 See The Danish EU Presidency, Background note on ‘Environment’, . 35 Inteviews in Brussels, January 12 and May 15 2006. 36 ENDS Daily (29 April 2002), ‘EU Climate Emissions Take Wrong Turning’, Issue 1206. 37 ENDS Daily (6 May 2003), ‘EU Greenhouse Emissions Up Again in 2001’, Issue 1437.

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The Linking Directive As noted in Chapter 3, the Commission proposed a linking directive only a few days after the Council of Ministers agreed on the main directive. The aim was to specify the link between the EU ETS and the Kyoto Protocol’s flexible mechanisms Joint Implementation (JI) and the Clean Development Mechanism (CDM). During Council negotiations, several changes were made to the proposal: a quantitative cap on JI/CDM credits as a percentage of the total quantity of member-state allowances, that CDM could not be used until 2008 (timing), and that neither sinks nor nuclear power would be included as eligible projects. Hydropower projects were considered legitimate if they took account of environmental and social impacts (qualitative restrictions). Table 5.1

The Commission’s proposal and the final Linking Directive Quantitative cap

Qualitative restrictions

Timing

Commission’s proposal in July 2003

Review of credit – No nuclear power. import at 6%, final cap – No sinks till at ‘for example 8%’. after 2012. – Hydro-projects would have to take account of ‘environmental and social impacts’.

The Directive would be dependent on the Kyoto Protocol entering into force. Wait until 2008 before any credits could be used.

Linking Directive adopted in October 2004

No common cap. Limits to be set by each member-state.

No longer dependent on the Kyoto Protocol entering into force. CDM credits could be used from 2005.

– No nuclear power till after 2012. – No sinks till 2008. – Hydro-projects over 20MW would have to comply with World Commission of Dams rules.

Sources: European Commission (23 July 2003), COM (2003)403, Commision Proposal for a Directive of the European Parliament and of the Council amending the Directive establishing a scheme for greenhouse gas emission allowance trading within the Community, in respect of the Kyoto Protocol’s project mechanisms (Brussels). Available at accessed 22 May 2007.

Most of the member-state work on the Linking Directive was conducted in the Working Party on the Environment,38 where delegates gathered for discussions on the linking 38 The Working Party on the Environment is one of many Council working parties (for more information on these, see for example Larsson 2003). Usually at least one official from

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issue close to every second week, from the first meeting on 29 July onwards till early April 2004. The delegates seemed to have plenty to talk about. There were ‘major concerns’ about the form and content of the Commission’s proposal: A majority wanted a link established from 2005 instead of 2008.39 Similarly, a majority opposed a quantitative cap.40 Germany and the Netherlands, however, argued in favour of the Commission’s proposal on this issue, while the UK and later Austria wanted the cap set at installation level rather than at member-state level.41 As for the qualitative restrictions, delegates were more divided. Only France proposed that nuclear projects should be admitted, ‘at least after 2012’, while several states (particularly the southern ones) questioned the ban on sink credits.42 On the hydro-provision, two separate coalitions formed; on one side Germany, which would eventually gain support from the Netherlands and Sweden, demanding stricter

the ministry responsible for the matter in every member-state participates in such meetings. In the Working Party on the Environment, different participants join the meetings, depending on the agenda (Ibid., 94). 39 Council (25 September 2003), Note 12896/03 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms (Brussels: Council of the European Union, General Secretariat); Council (9 October 2003), Note 13377/03 regarding: Preparation for the Council (Environment) Meeting on 27 October 2003, Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Policy Debate. (Brussels: Council of the European Union, General Secretariat). 40 Ibid. 41 See, for instance: Council (23 December 2003), Note 16379/03 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms. (Brussels: Council of the European Union, Presidency/General Secretariat); and Council (13 February 2004), Report 6235/04 regarding: Preparation of the Council Meeting (Environment) on 2 March 2004, Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Progress Report. (Brussels: Council of the European Union, General Secretariat). 42 Council (25 September 2003), Note 12896/03 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms (Brussels: Council of the European Union, General Secretariat); Council (9 October 2003), Note 13377/03 regarding: Preparation for the Council (Environment) Meeting on 27 October 2003, Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Policy Debate. (Brussels: Council of the European Union, General Secretariat).

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wording and an explicit reference to the World Commission on Dams;43 on the other side, France, Spain and Portugal, which opposed the German proposal.44 They were eventually backed by Italy, Greece, Austria and Finland.45 Clearly, not all member-state positions could be heard in the negotiations. Still, during the informal trilogues46 of spring 2004, member-states came to gain considerable acceptance for their demands, even on issues not backed by a majority. First of all, they got their way with the cap.47 While the Parliament’s rapporteur had suggested that the domestic action should constitute ‘at least half of the reduction (…) effort made’,48 this was not included in the final wording, which simply stated that limits would be set by each member-state.49 Second, demands for an early link 43 Council (6 February 2004), Note 5975/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms. (Brussels, Council of the European Union, General Secretariat). 44 Council (21 November 2003), Note 15082/03 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Revised Presidency Text (Brussels: Council of the European Union, Presidency/General Secretariat). 45 Council (2 December 2003), Note 15475/03 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms (Brussels: Council of the European Union, Presidency/General Secretariat); and Council (23 December 2003), Note 16379/03 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms. (Brussels: Council of the European Union, Presidency/General Secretariat). 46 Informal meetings with the Council Presidency, the Commission and the Parliament rapporteur. Council (4 March 2004), Note 6490/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Revised Presidency Compromise Proposal. (Brussels: Council of the European Union, General Secretariat); and Council (26 March 2004), Working Document 7844/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Revised Presidency Compromise Proposal (Brussels: Council of the European Union, General Secretariat). 47 Council (31 March 2004), Working Document 7931/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms (Brussels: Council of the European Union, General Secretariat). 48 Ibid. 49 The member-states were also heard on the issue of conversion. The Commission had originally proposed that CDM and JI credits had to be converted into EU allowances before

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also seemed to pay off.50 And while the Parliament was eager to amend changes in the hydro-provisions, it was the German coalition that got its way with the final wording on this issue.51 Finally, the French demand for including nuclear projects yielded results – possibly because French opposition to the German hydro-proposal had been ignored. Their plea for allowing nuclear credits ‘at least after 2012,’ was heard, as the final directive excluded such credits only until 2012.52 The southern states, which had voiced a proposition on including sinks, were heard to a lesser degree.53 Their only gain was that possible inclusion of sinks for 2008–12 would be reconsidered in 2006. A majority of the member-states, along with the Parliament, had been against sinks altogether.54 All in all, the Linking Directive became noticeably marked by member-state interests. The changes in timing, the quantitative cap and partly qualitative restrictions can largely be credited to member-state demands. Conclusion In this section we have seen, first, that after the 2000 Green Paper the memberstates changed their preferences to increasing collective support for the 2001 ET they could be traded in the EU ETS. However, at the insistence of several member-states, led by the UK (see, for instance, Council (8 December 2003), Note 15673/03 regarding: Preparation for the Council Meeting (Environment) on 22 December 2003, Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Policy Debate. (Brussels: Council of the European Union, General Secretariat); and Council (4 March 2004), Note 6490/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Revised Presidency Compromise Proposal (Brussels: Council of the European Union, General Secretariat) the conversion concept was removed. The final directive permitted direct use of credits. 50 Council (31 March 2004), Working Document 7931/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms (Brussels: Council of the European Union, General Secretariat). 51 The EP had proposed that ‘credits resulting from large hydro-electric power (…) should only be [accepted] if the project complies with the criteria and guidelines established by the World Commission on Dams.’ They also wanted the definition of ‘large’ to be set at 10 MW. The presidency’s proposal was worded differently, and proposed setting the limit at 20 MW, both of which prevailed in the final directive. 52 France, however, still voted against the final directive, wanting a swifter adoption for nuclear projects. EU Energy (23 April 2004), ‘EP Adopts Kyoto Emissions Linking Directive’, Issue 81. 53 ENDS Daily (5 February 2004), ‘MEP Offers Businesses Kyoto Trading Incentive’. 54 Point Carbon (19 February 2004), ‘Feature: Linking Directive Divides Member States’.

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proposal. As this instrument was new, some states continued to adjust their positions in Council negotiations along with new information and increased understanding of the consequences of this policy instrument. Second, it shows that some basic design features favoured by the majority were included in the proposal at the outset. The most important of these was that the Commission proposed a decentralized system based on allocation of allowances at national level. Both these observations support the proposition that the EU ETS came to reflect the positions of the member-states to a significant degree. The negotiations on the Linking Directive also show that the member-states had significant impact on the cap and timing. However, the third observation opens up for the possibility that supranational institutions have had an independent impact on decision-making. Although the UK and Germany were able to affect the final directive to some (limited) extent, they had to yield and accept the final directive, even though it differed significantly from their preferences for a voluntary system. As these two major countries represent one third of the whole EU market for allowances from 2005 to 2007, this impact is far from trivial. The main reason for this institutional effect is that the directive was proposed under the EU’s co-decision procedure that required support by qualified majority. As a qualified majority supported the binding nature of the scheme, there was a real risk that Germany and the UK could be outvoted even though the directive was adopted by unanimity. This shows that the formal opportunity to vote by qualified majority created pressure to make concessions in the ‘shadow of the vote’ (see Chapter 2). In addition, particularly Germany’s negotiating position appeared to have been weakened by internal rivalry and the Danish Presidency was able to develop a political solution that became acceptable to all member-states. The line of reasoning above is based on an understanding of institutions as arenas, in this case determining how decisions are made – the decision procedure applied. In the next section, institutions will be understood as organizational actors. EU Institutions and Non-state Actors In this section, we analyse the influence of the EU institutions in the decision-making phase. To what extent and how was the final ET Directive shaped by the European Parliament? What role did the Commission play in this process? As noted above, institutions will here be understood as organizational actors rather than arenas. We will also address the role of non-state actors and their relationship with the EU institutions. Above, we saw how member-states were able to make several imprints on the EU ETS, including the Linking Directive. However, at least four changes to the ET directive proposal are difficult to understand against the backdrop of the member-state perspective: • • •

Why was an option for more auctioning included in the final directive? Why were more restrictions on the member-states autonomy to allocate allowances included? Why did the opt-out provision exclude sectors or ‘activities’?

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Why was the chemical industry, which was included in the Green Paper, excluded from the EU ETS?

This perspective can also increase our understanding of the speedy decision-making process, with just two years between the Commission proposal and the directive’s formal entry into law. The Commission and Non-state Actors At the end of January 2001, the Commission started drafting the directive proposal. At the same time, Working Group 1 on emissions trading under the European Climate Change Programme (ECCP) continued with representatives from industry, the green movement, the Commission and some member-states (see Chapter 4).55 The WG1 meetings contributed to further knowledge and capacity-building among stakeholders. On the other hand, the minutes of the meetings show that this process ended on a split note on many design issues, and not with a clear input to the further proposal design process. This is hardly surprising, given the variation of actors and interests present. It is quite illustrative that Germany’s resistance to a mandatory system popped up at a meeting in mid-March when representatives of the BDI strongly opposed a mandatory system.56 With the US rejection of the Kyoto Protocol in March 2001, the Commission significantly stepped up its work on bringing out a proposal. Environment Commissioner Wallström felt that it was important for the Community to give a clear signal to the outside world that it was still taking the Kyoto Protocol seriously. The Climate Change Unit was instructed to prepare a draft proposal for adoption by the Commission before the start of the international climate change meeting in Bonn in mid-July. The draft proposal of the EU ET directive was sent to other Commission services for informal consultation in mid-May 2001 and went to interservice consultations at the end of May. This draft proposed a mandatory but still rather decentralized system, with allowance quantities mainly determined by the member-states. Sectoral and GHG coverage was in line with proposals in the Green Paper, except that the chemicals sector had now been excluded. Memberstates would be able to propose other sectors for inclusion in the system (‘opt-in’). Furthermore, as long as allocations complied with state aid rules, member-states would be free to choose the method of allocation – which potentially opened the way for the auctioning of allowances, as per the Green Paper. The penalty level for noncompliance was set at €200 for every excess tonne of CO2 emitted – and that was ten times the allowance price anticipated by the Commission.57

55 The 7th and 8th ECCP WG1 meeting were held on 14 February and 14 March. The final ordinary WG1 meetings were then held on 4 April and 2 May. 56 European Commission (15 March 2001), ECCP Working Group 1, Summary Record of Meeting February 14 2001 (Brussels), 2. 57 ENDS Daily (25 June 2001), ‘EU Climate Trading Scheme Set to Emerge’, Issue 1016; Reuters/Planetark (25 June 2001), ‘EU Drafts Ambitious Emissions Trade Plan’.

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Up to this point there had not been very much ETS disagreement within the Commission.58 But this proposal was widely leaked, caused considerable uproar among industrial lobby groups who had anticipated another round of stakeholder consultations before a final proposal would be presented. Industry then did some heavy lobbying of the Commission, to delay adoption of the proposal (Lefevere 2005). Several commissioners, including DG Enterprise Commissioner Liikanen and DG Competition Commissioner Monti, blocked the proposal.59 So, at the end of June, the Environment Commissioner decided to postpone the ET proposal until October at the earliest. The Commissioner had hoped to bolster the EU’s position at the up-coming Bonn UNFCCC meeting on implementation rules for the Kyoto Protocol. Explaining the opposition from industry, UNICE’s Cloquet stated: ‘you can’t jump from a green paper to a technical proposal without a proper consultation with those supposed to implement’.60 There was uncertainty as to the method of allowance allocation, and worries in DG Competition that market distortions might emanate from the decentralized approach put forward in the draft proposal.61 The final report of the ECCP WG 1 was then presented at an ECCP Conference in July 2001. The group was now unanimous on the need to introduce emissions trading as soon as practicable. However, differences of opinion remained on such key design issues as whether participation should be mandatory or voluntary, and whether allocations should be ‘indirect’ or ‘direct’. The latter is particularly relevant for whether allocation and monitoring among electricity producers should be based on emissions from particular installations, or should take into account emissions from electricity consumed by a country or installation.62 The UK, which participated in the ECCP WG 1, favoured an indirect approach in line with its domestic ETS. There was also some disagreement on whether the system should be based on trading between member-states or companies, and on the role of relative versus absolute targets. From a GHG emissions perspective, the relative target approach (‘baseline and credit’) is more vulnerable to production growth than absolute targets (see Chapter 2). If there was going to be emissions trading, the relative target approach was strongly preferred by the chemical industry, which was represented in WG 1 by the European Chemical Industry Council (CEFIC) (see Table 4.1).63 The group agreed on several recommendations that reflected differences of opinion among the participants. For example, ‘Absolute targets must be at the core of any EC-wide

58 Interviews in Brussels, 15–16 May 2006. 59 ENDS Daily (29 June 2001), ‘EU Emission Trading Scheme Proposal Delayed’, Issue 1020; Reuters/Planetark (2 July 2001), ‘EU Delays Discussion of Climate Emissions Plan’. 60 Ibid. ENDS Daily (29 June 2001). 61 Ibid. 62 For example, under the direct approach, if Denmark emits more by producing electricity which is exported to Norway, the emissions of the exported electricity are not taken into account. See Vis (2006a). 63 European Chemical Industry Council [website], .

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emissions trading scheme. But with appropriate safeguards built in, there can also be a limited role for relative targets’.64 Encouraged by the outcome of the Bonn UNFCCC meeting in July 2001, the Commission stepped up its efforts to ensure that the ET proposal would be adopted by the end of the year. To counter the criticism concerning inadequate consultation, two ‘stakeholder consultation meetings’ were, as noted, held in September. The first one targeted industry and ENGOs and was held on 4 September.65 It was chaired by Jos Delbeke and attended by 15 Commission officials, representing DG ENV (four), DG ECFIN (one), DG Enterprise (four), DG TREN (four), DG Market (one), and DG Trade (one). From the stakeholder side, there were 52 representatives, mostly from the industrial side (close to 50). These included the European Roundtable of Industrialists, European Chambers of Commerce, UNICE, various Euro-federations like EURELECTRIC and EUROPIA, as well as national members of UNICE, like the Confederations of British and German industries. From the ENGO side, the WWF, Climate Action Network Europe and FIELD were represented by the same persons as in ECCP WG 1. Attendance by industry was much broader than in the ECCP WG1 meetings. This meeting also points up the dramatic difference in resources and numbers between industry and ENGOs. A further difference was that memberstate representatives did not attend. The Commission described the meeting as being much tougher than the consultation meeting with member-state representatives held some days later. A central item was the mandatory nature of the system, including the relationship between existing voluntary ‘long-term’ agreements and emissions trading. If such agreements did what was necessary, why should other approaches be needed? This issue reflected the position of German industry, which strongly opposed a mandatory EU ETS. This position was reiterated by German governmental representatives at the 10 September consultation meeting with the member-states. Others maintained that emissions trading offered a far more transparent and equitable distribution of efforts within and between sectors than voluntary agreements.66 With regard to allocation, it was stressed that transparency was crucial. Member-states were to decide upon exact allocations, on the basis of criteria established at EU level.67 The Chairman concluded that there was an overwhelming majority in favour of going ahead with emissions trading sooner rather than later. In contrast to ECCP WG 1 where UK representatives participated, there was also a decisive majority in favour of a ‘direct’ emissions approach for electricity producers, which was considered simpler. A key ‘take-away message’ was the wish ‘to see greater distinction between the period

64 European Commission (2 May 2001), ECCP Working Group 1, Final report (Brussels), 4. 65 European Commission (17 September 2001), Chairman’s Summary Record of Stakeholder Consultation Meeting (with industry and environmental NGOs) 4 September 2001 (Brussels). 66 Ibid., 2. 67 Ibid., 3, 4.

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prior to 2008 compared to the period post-2008’, meaning that the scheme should be more flexible in the period prior to the Kyoto commitments.68 A revised draft ET directive proposal was ready by mid-September. At least four changes in the policy direction of flexibility emphasized and preferred by industry were evident here. First, opt-out clauses had been added, enabling member-states to temporarily exclude installations from the system before 2008. Second, governments could issue extra allowances to companies likely to exceed their original allowance allocation in ‘unforeseen circumstances’ and due to ‘market conditions’. Both these steps would be subject to Commission approval, however, and would also need to be in line with EU rules on state aid. Third, free-of-charge allocation was put forward as the standard approach in the pilot phase, ruling out the option of auctioning in this phase. Fourth, the proposed penalty for exceeding the allowed emission quantity was reduced considerably, from €200 to €50 per tonne additional CO2 until 2008, and €100 thereafter – or double the average market price of allowances, if this was higher.69 Comparing these changes with the positions of the member-states at the consultation meeting six days later, we find little to suggest that the changes were required by a majority of the member-states – with the possible exception of free allocation, which was preferred by a majority of the member-states as well. Similarly, several observers concluded that many of these changes were a direct result of business pressure.70 For instance Enterprise Commissioner Liikanen had come under heavy pressure from German industry, which claimed that the ETS would disrupt existing voluntary agreements in Germany.71 As CoP-7 in Marrakech was to start in late October, pressure was now building up on the Commission to reach agreement on the ET proposal prior to CoP-7. The World Wildlife Fund appealed to Romano Prodi to break the ‘logjam’ and not let ‘petty disagreements among European Commissioners’ lead to ‘the EU shooting itself in the foot’.72 Such a political accident was avoided when the formal EU ET directive proposal was in fact put forward on 23 October 2001 – six days before CoP-7.73 Compared with the mid-September draft proposal, there was a reversion 68 Ibid., 7. 69 European Commission (14 September 2001), Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC, (draft) version for interservice re-consultation (Brussels). 70 ENDS Daily (2 October 2001), ‘Wallstrom Sweetens Emission Trading Pill’, Issue 1072; Reuters/Planetark (2 October 2001), ‘EU Eases CO2 Trading Rules After Industry Pressure’. 71 ENDS Daily (23 October 2001), ‘EU Makes Its Move to Ratify Kyoto Protocol’, Issue 1087. 72 WWF (22 October 2001), ‘EU: Don’t Shoot Yourself in the Foot over Climate Change’, press release. 73 European Commission (23 October 2001), COM(2001)581, Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC (Brussels).

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to some of the concessions to industry. Both the opt-out clause and the opening for issuing additional allowances due to ‘market conditions’ had been deleted. Worried about loopholes and competition concerns within the internal market, key figures likes Competition Commissioner Monti and Internal Market Commissioner Bolkestein backed Environment Commissioner Wallström in the fight with Enterprise Commissioner Liikanen. A deal had been made at the Commissioner level and ‘Wallström had cut through’, surprising both industry and even the BEST group itself.74 The exclusion of the chemical sector, was, however, upheld.75 The Commission’s official reasons were, first, that the sector’s direct emissions of CO2 were ‘not so significant’.76 Second, the number of installations was high, in the order of 34,000 plants, which would increase the administrative complexity of the scheme. The first of these arguments is not very persuasive. Emissions from the chemicals sector were higher than for pulp and paper and about the same as from the mineral industry – both of which were included in the proposal.77 A third reason for excluding this sector was political: the European chemical industry represented by CEFIC is powerful. According to the European Commission, the chemicals industry is the third largest manufacturing industry in the EU, employing 1.9 million people and with a leading international position – all of which make it important to the EU economy.78 As noted in Chapter 4, the chemical industry has not been very supportive of emissions trading and has been a strong advocate of relative targets, arguing that it is particularly vulnerable to international competition.79 It is illustrative that the chemical industry walked out of the German working group on emissions trading in late 2001. The Chemical Industry Associations (VCI) is one of the strongest and most powerful industry associations in Germany. Excluding the chemical industry would serve to silence the VCI and thereby weaken internal opposition to emissions trading within Germany.

74 ENDS Daily (23 October 2001), ‘EU Makes Its Move to Ratify Kyoto Protocol’, Issue 1087; interviews in Brussels, 15–16 May 2006. 75 Although CO2 emissions from on-site power and heat generation would be included if they exceed 20 MW. 76 European Commission (23 October 2001), COM(2001)581, Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/EC (Brussels), 10. 77 Notice that 1990 emissions figures are used in the directive proposal, where it is argued that emissions from the chemicals sector represent 1 per cent of the EU’s total emissions (26 million tonnes). In the 2000 Green Paper, however, 1997 figures are used, showing that paper and pulp represents 1 per cent, chemicals 2.5 and minerals 2.7 per cent of CO2 emissions from the EU 15. 78 European Commission (February 2006), Environment fact sheet: REACH – a new chemicals policy for the EU, accessed 15 June 2007. 79 European Chemical Industry Council [website],

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The chemical industry was also singled out for another major policy initiative at this time. In February 2001, the plan for a new chemicals policy was introduced to the chemical industry by the White Paper on EU Chemicals Policy Review (the REACH process). 80 To make this major policy initiative function, requiring producers and importers of chemicals to register them, the DGs for the environment and enterprise would need a certain degree of cooperation from CEFIC. It is reasonable to assume that excluding the chemical industry from the EU ETS would make them more cooperative in the development of REACH. The Commission managed to maintain its main design ideas throughout the drafting process. This shows that DG Environment can withstand industry pressure aimed at weakening environmental policy instruments when it can make alliances with other powerful parts of the Commission. On the other hand, it also points up the limitations of the Commission when it comes to withstanding pressure from industry. This is particularly visible in the continued exclusion of the chemicals sector. Although verification is difficult, there is much to suggest that the exclusion of the chemicals sector was also tactically motivated, related to weakening German opposition to emissions trading and strengthening cooperation with the chemical industry in the upcoming REACH process. The Parliament’s First Reading and the Common Position In Chapter 3, we saw that the European Parliament suggested some 80 amendments to the ET directive proposal at its first reading. To what extent – and why – was the Parliament able to affect the common position to be adopted by the member-states in the Council in December 2002? Changes introduced to the common position, such as an opening for more auctioning, are difficult to understand on the basis of the intergovernmental perspective discussed earlier. According to the co-decision procedure applied in this case, the Parliament has the right to propose amendments to the Commission proposal.81 The Parliament can veto the adoption of the whole proposal if it thinks that its amendments have not been taken sufficiently into account in the final text. This gives the Parliament significant formal power in the decisionmaking process. Amendments are proposed through ‘readings’. The proposal can be adopted at the first reading if the Council accepts the Parliament’s amendments. If not, the Council adopts a ‘common position’, as in the case of the EU ETS. The proposal then goes to a second reading, which will be assessed in the next section. In the first part, we assess the amendments proposed and the degree of unity behind them. In the second part, we analyse the Parliament’s actual impact on the common position and discuss the reasons for its influence, particularly in light of the role of the European Commission. First reading In the autumn of 2001, the proposed ET directive was immediately criticized by the Green Party in the European Parliament. Green Party MEP Alexander 80 The REACH (Registration, Evaluation, Authorisation and Restriction of Chemicals) Regulation was formally adopted on 18 December 2006, to enter into force on 1 June 2007. 81 This description of the co-decision procedure is based on Lefevere (2005, 100).

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de Roo particularly disagreed with handing out allowances free of charge, stating that ‘the US experience in sulphur emissions trading has proven that, if you start with a bad model, it is politically impossible to switch back later on’.82 Warming up to the first reading process in the European Parliament, ET rapporteur Jorge Moreira da Silva, EPP-ED83 Portugal outlined his provisional ET position at a Brussels sustainable energy conference in mid-February 2002. Da Silva told the conference that he would urge the Parliament to push for a more centralized trading scheme than that proposed by the Commission. He stated that there was ‘too much subsidiarity’ in the proposal and that he would not ‘follow the line of giving freedom to member-states to set a cap’. Instead, the EU should set an overall cap on emissions from the sectors concerned, and either distribute these to companies directly or share the cap between the 15 member-states for governments to distribute. As to allocation of allowances, da Silva indicated a preference for a mixture of free allocation (grandfathering) and for payment (auctioning). Otherwise, he praised the proposal as ‘90% very good’ and indicated that he would not propose extending its coverage either to include more gases or industry sectors.84 With this statement, more centralized Community level control over national allocation of allowances and more auctioning in the allocation of allowances were to become the two major issues for the European Parliament. In fact, however, the EP came to develop amendment proposals on most aspects of the proposed ET directive. The first reading process in the European Parliament got underway in late March 2002 with a discussion on the ET proposal in the EP Legal Affairs Committee. The interests of the UK, Germany and Finland could immediately be seen in the opposition of British, German and Finnish MEPs to a mandatory pilot phase 2005– 07.85 The Parliament’s Environment Committee debated a preliminary report put forward by rapporteur da Silva in mid-April 2002. By then, da Silva had abandoned the idea of setting allowance caps at EU rather than national level. However, he proposed introducing a limit on the distribution of allowances in order to prevent ‘over-allocation’ distorting the market. With regard to method of allocation, in the pilot phase of the EU ETS, 70 per cent of the allowances should be handed out free of charge, while 30 per cent should be auctioned. In the second phase (2008–12), all allowances should be auctioned. At this stage, it was clear that the ‘90% good’ view was withering, as da Silva also proposed significant changes in coverage: the scheme’s scope should be broadened to include other gases and sectors ‘at the earliest possible stage’.86 Most Committee 82 International Environment Reporter (24 October 2001), ‘EU Commission Advances Legislation Including Emissions Trading Scheme’, 24:22, 907. 83 EPP-ED is the Group of the European People’s Party (Christian Democrats) and European Democrats. From 1999 to June 2004, it was the largest group in the European Parliament, with 232 of the total of 625 seats. 84 ENDS Daily (21 February 2002), ‘MEP Outlines Plans for EU Carbon Trading’, Issue 1163. 85 ENDS Daily (27 March, 2002), ‘MEPs Debate EU Climate Gas Trading Plan’, Issue 1187. 86 Moreover, it was suggested to ban CDM credits derived from sinks, nuclear or largescale fossil sources.

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members speaking in the debate called for coverage of more gases and more sectors, and especially the chemicals sector. German, British and Finnish MEPs again questioned the need for a mandatory system in the pilot phase.87 The Environment Committee then adopted its main positions at its meeting on 10 September, in what was described as ‘a marathon voting session involving hundreds of amendments’.88 In fact, nearly 500 amendments were tabled in the Committee.89 The Committee backed the Commission’s proposal for a mandatory system from the outset. This means that British, German and Finnish MEPs did not get their way with a voluntary scheme in the pilot phase. As a concession, however, the Committee opened up for member-states to temporarily exempt individual installations (opt-out) if they put in equivalent efforts to limit emissions, subject to Commission approval (Amendment 50). As in the negotiations among the member-states, the question of mandatory participation was reported as ‘the thorniest issue in the Committee’.90 This exemption clearly responded to the interests of the UK in particular, but also Germany and Finland. Even though the MEPs from these countries belonged to different party groups in the EP, they stood together behind the proposal to give countries the opt-out possibility in the pilot phase. This proposed amendment was to end up as an actual amendment in the common position. Furthermore, it was suggested that there be a cap on the total quantity of allowances to be allocated to each member-states, representing roughly half of the emissions forecast in the relevant period in each member-state (Amendment 24). As to coverage, the Committee sought a significant broadening of the scope of the scheme, in terms of sectors and gases. The two new ‘activities’/sectors of chemicals and aluminium were suggested for inclusion, as well as all six Kyoto gases, provided that data quality and ‘acceptable measurement, monitoring and calculation methods’ were developed by the Commission (Amendments 17, 54 and 61). Moreover, the inclusion (voluntary opt-in) in some member-states of additional sectors and activities that would not distort competition should also be allowed from 2005 on (Amendment 16). Also this ended up as a change in the common position. With regard to method of allocation, the rapporteur’s plea for more auctioning did not win the support of the Committee, and the Commission’s proposal was left unaltered on this point (distribution free of charge). This indicates successful 87 ENDS Daily (23 April 2002), ‘EU Climate Trading Scheme in the Spotlight’, Issue 1202; International Environment Reporter (8 May 2002), ‘Euro Parliament’s Environment Committee Calls for Changes to GHG Trading Proposal’, 25:10, 471–2. 88 European Parliament (13 September 2002), Report on the Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/ EC, COM(2001)581 (Committee on the Environment, Public Health and Consumer Policy, Final, A5-0303/2002); ENDS Daily (11 September 2002), ‘MEPs Back Mandatory Climate Emission Trading’, Issue 1284; International Environment Reporter (25 September 2002), ‘EU Parliamentary Committee Approves Industry Exemptions for Kyoto Trading’, 25:20, 897–8. 89 Europe Environment (20 September 2002), ‘Climate Change: MEPs Vote on Emissions Trading Plan’, 618, 1. 90 Ibid.

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lobbying by industry which generally opposed allocation for payment. As to links to the Kyoto flexible mechanisms (JI and CDM), the Committee did not agree that credits from such projects would ‘fall within the scope of the directive’ in the pilot phase. Such credits could be used in the period 2008–12, on the condition that the projects did not ‘include carbon sinks or sources of energy which use nuclear power’ (Amendment 53). All in all, 74 amendments were adopted, and the draft legislative resolution was adopted by 39 votes to 7, with 6 abstentions.91 Rapporteur da Silva was quoted as being ‘delighted with the outcome of the vote’.92 In the run-up to the Parliament’s plenary first reading, environmental NGOs sought to influence particularly the part about allocation, and four ENGOs lent their support to the EP rapporteur’s plea for significant room for auctioning of allowances in order to ‘provide an incentive for early action to improve energy efficiency’.93 The first reading then took place on 10 October.94 All the Environment Committee amendments listed above were approved by the plenary, including the backing of a mandatory scheme from the start, a broad scope including all six Kyoto Protocol gases and emissions from chemicals and aluminium plants, and a cap on the total quantity of allowances to be allocated to each member-state. A few additional amendments were adopted as well, bringing the total number up to around 80. The major addition was a proposal for allowance auctioning, in line with the wishes of both the rapporteur and several ENGOs (although da Silva’s initial proposal called for twice as much auctioning). For both the pilot period 2005– 07 and the Kyoto commitment period 2008–12, member-states were to (‘shall’) allocate 15 per cent of the allowances ‘against payment’ (Amendment 102, Article 10). This proposal was clearly contentious, and was passed by a majority of only three votes.95 Otherwise, the Parliament adopted the rapporteur’s ET draft report with a large majority: 381 to 66 votes, with 38 abstentions.96

91 European Parliament (13 September 2002), Report on the Proposal for a Directive of the European Parliament and of the Council Establishing a Framework for Greenhouse Gas Emissions Trading within the European Community and Amending Council Directive 96/61/ EC, COM(2001)581 (Committee on the Environment, Public Health and Consumer Policy, Final, A5-0303/2002). 92 Europe Environment (20 September 2002), ‘Climate Change: MEPs Vote on Emissions Trading Plan’, 618, 1. 93 These four ENGOs were Birdlife International, Climate Action Network Europe, Friends of the Earth Europe and WWF. ENDS Daily (7 October 2002), ‘NGOs Keep Up Pressure on Emissions Trading’, Issue 1302; EurActiv (10 October 2002), ‘EU Emissions Trading Scheme on Parliament’s Agenda’. 94 European Parliament (10 October 2002), Greenhouse Gas Emission Allowance Trading – European Parliament Legislative Resolution on the Proposal for a European Parliament and Council Directive Establishing a Scheme for Greenhouse Gas Emissions Allowance Trading within the Community and Amending Council Directive 96/61/EC, COM(2001)581, P5_TAPROV(2002)0461. 95 ENDS Daily (10 October 2002), ‘MEPs Back Early Mandatory Climate Trading’, Issue 1305. 96 Euractiv (11 October 2002), ‘Parliament Ups Ambitions for Greenhouse Gas Emissions Scheme’.

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The outcome of the Parliament’s first reading shows that it pressed for a higher degree of harmonization at EU level, functioning mainly as a watchdog for the environmental integrity of the proposal. The main notable exception to this picture is the opening up for a temporary opt-out of individual installations. The Commission’s ET proposal and the changes suggested in the Parliament’s first reading are summed up in Table 5.2. Most of these suggested changes were backed by large majorities in the European Parliament. With regard to method of allocation, however, the call for Table 5.2

Key changes suggested in the Parliament’s first reading Type of system

Commission Mandatory proposal system but October 2001 decentralized setting of emission caps

Changes suggested in Parliament first reading

Cap on total quantity of allowances to be allocated to each MS

Coverage/scope

Method of allocation

Compliance and enforcement

Penalty: either €50 (pilot phase)/ €100 (Kyoto phase) or twice the average market price ‘whichever is higher’ Mandatory No changes All six Kyoto auctioning of 15% suggested gases of allowances in Chemicals and aluminium sectors both pilot and Kyoto phases also included Temporary exemption/optout of individual installations Opt-in of additional sectors and activities already from 2005 Start with CO2 only and four targeted ‘activities’a Opt-in of additional sectors and activities from 2008 on

Free of charge allocation in pilot phase; next phase to be decided in 2006 review

a These were (a) energy (combustion, refineries and coke ovens); (b) ferrous metals; (c) mineral industry (cement, glass, ceramic) and (d) other activities (pulp and paper).

a significant element of auctioning was controversial, and was passed by only a very slight majority. According to Brussels insiders, ET rapporteur da Silva did a very good job, exerting skilful leadership in facilitating a high degree of unity in the EP.97 This included the creation of a small group of dedicated ‘trading MEPs’ comprising 10 to 12 key people – in a way, the EP counterpart to the BEST group 97 Interviews in Brussels, 26 May 2004.

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in the Commission. Several aspects of da Silva’s background were favourable for his ability to forge compromises between differing factions and groups in the Parliament. He was elected from one of EU’s Southern countries (which helped to mute the idea that emissions trading was a ‘Northern conspiracy’) and represented the central conservative/liberal group in the Parliament. On the other hand, he did not succeed in keeping the EP’s focus directed to a few key issues. As the process developed, the ‘90% good’ strategy faltered as the EP came to propose amendments to most key aspects of the proposed ET directive. Lobbying from industry and ENGOs affected the proposed amendments and the level of agreement. On the issue of the system’s mandatory nature, industries from particularly Germany and the UK (in tandem with governmental representatives from these countries) emerged as a significant force pushing for the opt-out clause for installations. On the issue of allocation, the strong call for auctioning voiced by important environmental NGOs went hand in hand with the Parliament’s first reading stance on this issue. Both these proposed amendments were among the most controversial ones that were adopted. The common position After the Parliament’s first reading, the Commission responded quite quickly. At a Brussels conference on 15 October, Environment Commissioner Wallström delivered a ‘passionate defence’ of the Commission’s initial design, arguing strongly for unconditional participation by all countries’ installations and no auctioning of allowances in the pilot phase. She warned that such auctioning could jeopardize already equivocal support from industry, stating that ‘any amount of auctioning, however small, will make it even harder for businesses to accept emissions trading’.98 This was followed by the Commission’s official and main response to the Parliament’s first reading, published on 27 November 2002.99 It was here clarified that the Commission fully accepted the general comments of the EP, such as that the EU’s climate change strategy should be built on a balance between emissions trading and other types of Community, domestic and international action.100 Among the elements that the Commission accepted only in part or in principle were minor adjustments regarding the issues of transparency, reporting and review. But many amendments were not accepted at all by the Commission – in fact, a total of 55 amendments. Among the amendments and suggestions not deemed acceptable were all the main proposed amendments (see Table 5.2): 98 ENDS Daily (16 October 2002), ‘Commission Holds Firm on EU Climate Gas Trading’, Issue 1309. 99 European Commission (27 November 2002), COM(2002)680 final, Amended Proposal for a Directive of the European Parliament and of the Council Establishing a Scheme for Greenhouse Gas Emissions Trading within the Community and Amending Council Directive 96/61/EC (Brussels). 100 Among other amendments that were accepted: ‘naming and shaming’ of noncompliers should be used sparingly, and the reference to a penalty level ‘twice the average market price etc’ could be deleted; the review of the scheme should include additional elements such as the relationship between the EU ETS and international emissions trading and possible needs to adapt the scheme in light of EU enlargement.

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• • • •

131

cap on total quantity of allowances to be allocated to each member-state; temporary exemption/opt-out of individual installations until 2007; inclusion of other gases than CO2 and inclusion of the aluminium and chemicals sectors; mandatory auctioning of 15 per cent in both the pilot and Kyoto commitment period.101

The time had now come for the Council of Environmental Ministers to discuss and adopt a common position on the ET proposal. As described earlier, the Danish presidency played an important and constructive facilitating role in preparing a position that would be acceptable to all member-states. In this process, important support came from DG Environment and the BEST group, which helped in writing the final compromise proposal (Watanabe 2005, 20).102 Furthermore, the Commission was generally very active behind the scenes in the Council negotiations, explaining the various elements of trading system design to the member-states.103 The positions of some members were not fixed; moreover, the fact that the BEST group had worked on emissions trading much longer than most member-states gave the Commission an important role to play also in the decision-making process. The main outcome of the negotiations was that the Council chose to uphold the body of the Commission’s design that had been put forward a year earlier.104 The Council wanted: •





a mandatory but still decentralized system, with a right for the Commission to approve National Allocation Plans, but no cap on total quantity of allowances; a system initially covering only CO2 and with sectoral coverage in line with the Commission proposal, organized into four main ‘activities’ as in the Commission proposal, excluding aluminium and chemicals (see Annex I of the common position); allowances allocated free of charge in the pilot phase 2005–07.

Hence, it is understandable that Environment Commissioner Wallström was ‘extremely pleased’ that the architecture and main design of the European

101 As to other non-acceptable elements, these included references to allowances being allocated in accordance with ‘best available techniques’ and CHP generation specifically; references to emissions trading ‘not replacing existing charges on energy and CO2 emissions’; explicitly mentioning that linking trading schemes with other Kyoto parties would encourage the US to come back on board; and obligatory rewarding early action between 1990 and 2004. 102 Interviews in Brussels, January 12-13 and May 15-16 2006. 103 Interviews in Brussels, January 12-13 and May 15-16 2006. 104 The common position was formally adopted in March 2003. Council (18 March 2003), 15792/1/02, Common Position Adopted by the Council on 18 March with a View to the Adoption of Directive of the European Parliament and of the Council Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community and Amending Council Directive 96/61/EC (Brussels: Council of the European Union).

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Commission’s proposal had remained in place. But also WWF and industrial lobbyists were reported to be satisfied with the outcome.105 Still, in comparison with the Commission proposal, changes allowing for ‘trading pools’, ‘opt-in’, ‘opt-out of installations and sectors/activities’, auctioning and lower penalties were introduced in the common position. Of these, more auctioning can be attributed to the EP and the member-states favouring auctioning. The possibility for member-states to allocate up to 10 percent of allowances from 2008 by methods other than free of charge may be seen as a very watered-down version of the Parliament’s proposal in its first reading (15 per cent auctioning from 2005 on). This inclusion was in line with the position of ENGOs and some member-states, but against the positions of the Commission, industry and a majority of the member-states. However, the compromise allowed those member-states who preferred auctioning to auction up to 10 per cent of allowances, without forcing opponents to engage in any auctioning at all. The ‘opt-out’ was supported by the Parliament’s first reading – but only for individual installations, not whole sectors. This was a concession to the UK, as well as Germany and Finland, in return for a mandatory system. In sum, we may say that the first reading in the EP led only to some minor changes in the Commission’s proposal that fully or partly can be traced back to EP proposals. The Parliament wanted far more radical changes than what was reflected in the common position – with regard to a cap on total quantity of allowances allocated to each member-state, the scope of the system in terms of gases and sectors included, and the method of allocation. Why this gap between the Parliament’s wishes and the results? First, the formal and informal inputs from the Commission was important. In its formal response to the Parliament, the Commission firmly rejected a cap on total allocations, broader scope of the system, and a significant role for auctioning in the allocation of allowances. In combination with work behind the scenes, the Commission seems to have made a significant impact on the process in the Council. As can be recalled from Chapter 2, in order to get the amendments rejected by the Commission adopted in the Council, unanimous support is needed if there is to be a first-reading agreement or in second reading. Second, the large number of amendments proposed by the EP probably weakened its impact. If the Parliament had supported da Silva’s initial ‘90% good’ assessment and focused on a few core issues, the impact might have been greater. The level of agreement behind the various proposals does not seem to be a potent explanatory factor. The wish for more auctioning had the smallest majority backing among the various proposals in the EP, but this proposal actually did affect the common position somewhat. Second Reading and the ET Directive In the second reading, the Parliament may propose new amendments to the Council’s common position. If the Council and Parliament cannot agree on these amendments, a conciliation committee seeks agreement between the Council and Parliament. If

105 ENDS Daily (9 December 2002), ‘Ministers Agree EU Climate Gas Trading Scheme’, Issue 1346.

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agreement on the final text cannot be reached, the Parliament may vote to veto the adoption of the proposal. The immediate response from the Parliament’s ET rapporteur did not bode well for the final spurt in this process. In a speech to a Brussels climate change conference on 10 December 2002, da Silva indicated that the Parliament was not likely to accept the common position among the member-states and that he expected the second reading to be ‘quite difficult’. He also expressed worries over the tight timetable.106 These positions were further clarified early in January 2003.107 At this stage, four issues were singled out as contentious, since the Parliament still wanted: • • • •

a temporary opt-out only for installations, not sectors; the inclusion of other sectors (especially aluminium and chemicals) and other gases already from 2005; the auctioning of 15 per cent of the allowances already from 2005; linking the Kyoto mechanisms only from 2008, not from 2005.

In fact, da Silva was quoted as expecting the issue to go to a conciliation committee.108 A conciliation process would have delayed the decision-making process and made the 2005 start less certain (Lefevere 2005, 101). The next main ETS movement within the EU institutional machinery was a new formal response from the Commission, in the form of a Communication to the European Parliament, published on 25 March 2003.109 The Commission underlined that the common position did incorporate many of the Parliament’s first reading amendments: all the 18 amendments from the Parliament’s first reading accepted totally or partly by the Commission had been incorporated in the common position. It also argued that other amendments not accepted by the Commission had been included in the common position, such as the temporary exclusion of certain installations, the inclusion of additional sectors and gases, and revision in the method of allocation. As to the relationship to the Kyoto Protocol’s flexible mechanisms, it was pointed out that the Commission had made a statement for the minutes of the Council meeting about ‘its intention to propose, by the first half of 2003, a Directive for linking the Kyoto mechanisms with the Community greenhouse emission trading scheme’.110 106 Euractiv (13 December 2002), ‘Parliament Set for Fight against Council Agreement on Emissions Trading’. 107 International Environment Reporter (15 January 2003), ‘Climate Change: Final Legislative Approval of EU’s Plan for Emissions Trading Expected Around 2004’, 26:2, 80– 81. 108 Ibid. 109 European Commission (25 March 2003), SEC(2003)364 final, Communication from the Commission to the European Parliament, pursuant to the second subparagraph of Article 251(2) of the EC Treaty, concerning the Common Position of the Council on the adoption of a Directive of the European Parliament and of the Council establishing a scheme for greenhouse gas emission allowance trading within the Community and amending Council Directive 96/61/EC (Brussels). 110 Ibid., 11.

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This decoupling of issues helped to lessen the complexity in the negotiations. It also helped to reduce opposition to the proposed ET directive from the Parliament, as it was clear that the Parliament wanted more restrictions on linking than did industry and a majority of member-states. The Communication ended by supporting the common position, while emphasizing that ‘prompt finalization’ of the emissions trading directive was necessary in order to keep the timetable and ensure European leadership in the fight against climate change.111 The subsequent main step in the EU institutional procedure was the second reading in the European Parliament. The Environment Committee debated the ETS in meetings on 29 April and 11 June. At the first meeting, 14 amendments were put on the table. These included a re-tabling of first reading proposals calling for optouts only for installations (not sectors), and broader coverage in terms of gases and sectors. The call for a cap on the amount of allowances available for distribution was repeated. On the issue of auctioning, the call was still for this to be included already from 2005 on, but from 15 per cent down to 5 per cent.112 It is clear that this second reading process took place in an atmosphere of increasing political urgency. The EU did not have much time to get the system in place so as to be able to show ‘demonstrable progress by 2005’. As we shall see in the next section, the EU ETS had by then become an important tool for saving the Kyoto Protocol in a situation where the USA was out and there was uncertainty about Russian ratification. On 22 May, the Parliament’s ET rapporteur da Silva stated: ‘If we postpone a decision it will create enormous problems for national authorities and companies’.113 In such an atmosphere, the willingness to compromise increases. The Parliament is normally lobbied and encouraged by environmental groups to adopt amendments that are more ambitious than those on the negotiating table. At this stage in the ETS process, according to Lefevere (2005, 101), the Parliament was lobbied by ‘a broad range of stakeholders, including industry, environmental NGOs, the European Commission and most member-states, to avoid proposing too many amendments and accept the Common Position’ (emphasis added). In contrast to the 74 amendments adopted in the first reading, on 11 June 2003 the Parliament’s Environment Committee agreed to re-table 25 of the amendments put forward in the first reading process – by 47 votes against 3, with two abstentions.114 Among these 25 amendments were the inclusion of all six greenhouse gases and the inclusion of the chemicals and aluminium industries. Furthermore, recognizing the time constraints involved, the Committee singled out four truly key issues for this final phase (see Table 5.3). 111 Ibid., 12. 112 ENDS Daily (30 April 2003), ‘Call for Tougher EU Emission Trading Maintained’, Issue 1434. 113 Reuters/Planetark (22 May 2003), ‘EU Assembly to Push for Greenhouse Gas Trading Deal’. 114 European Parliament (12 June 2003), Recommendation for Second Reading on the Council Common Position for Adopting a European Parliament and Council Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community and Amending Council Directive 96/61/EC (15792/2002-C5-0135/2003-2001/0245 (COD), A-5-0207/2003.

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Table 5.3

135

Key changes suggested in the Parliament’s second reading Type of system

Coverage/scope

Commission proposal October 2001

Mandatory system but decentralized setting of emission caps

Start with CO2 only and four targeted ‘activities’

Changes suggested in Parliament second reading

National ceiling/ ’cap’ for emission allowances to prevent overallocations based on a linear curve consistent with the memberstate’s Kyoto commitments;

Temporary and limited opt-outs for installations should be possible under three strict conditionsa

Method of allocation

Free of charge allocation in pilot phase; Opt-in of additional next phase to sectors and activities be decided in from 2008 on 2006 review

Compliance and enforcement Penalty: either €50 (pilot phase)/ €100 (Kyoto phase) or twice the average market price – ‘whichever is higher’

No changes Method of suggested allocating allowances should be harmonized, with allocation The directive should free of charge be revised in 2006 and 5% to include other auctioning sectors, especially from 2008 the transport sector

a

Installations should be subject to (a) equal emissions reductions as a result of other national policies; (b) equal monitoring, reporting and verification; and (c) equal penalties. No opt-outs for whole sectors as proposed by the Council.

In addition to these four issues, credits from the flexible mechanisms under the Kyoto Protocol could be linked to the EU ETS, but the MEPs wanted a guarantee that priority would be given to domestic action.115 Two of these issues were reported to be ‘verging on the non-negotiable’: the national ceiling and the opt-out issues.116 The plenary discussion and vote in the Parliament were scheduled for early July. However, as noted earlier, negotiations between the EP and the Council were initiated rapidly after the vote in the Environment Committee, and had a deadline of 20 June. They primarily involved the Parliament’s ET rapporteur, the Presidency and

115 ENDS Daily (11 June 2003), ‘MEPs Push for a Quick Deal on EU Climate Trading’, Issue 1460; Euractiv (12 June 2003), ‘Greenhouse Gas Trading: MEPs Hope to Avoid Conciliation’; Europe Environment (13 June 2003), ‘Climate Policy: MEPs Stand Firm Over Trading of Greenhouse Gas Emission Rights’, 636, 22–3. 116 Europe Environment, ibid., 23.

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the Commission, with the Rapporteur determined not to become ‘embroiled in the arcana of the Council. a monster with 15, or even 25 heads’.117 Following compromise proposals tabled on 23 June by EU member-state representatives, the negotiations met with success on 25 June.118 This final character of the process has been characterized as unique, including the fact that ‘unlike virtually all other major pieces of environmental legislation recently adopted by the European Community under the co-decision procedure, the ET directive did not go into conciliation’ (Lefevere 2005, 101). On the key and ‘almost non-negotiable’ issue of a national ceiling for allowances, the Parliament did not win through. Instead, the compromise outcome was that the total quantity of allowances should ‘not be more than what is likely to be needed for a strict application of the relevant criteria’. Prior to 2008, the total amount of allowances should be ‘consistent with a path towards achieving or over-achieving’ Kyoto targets. With regard to the other really key issue of opt-outs, the Parliament was more successful. Here, the outcome was an opening up for temporary optouts only for installations, but not for whole sectors – just as emphasized by the Parliament’s Environment Committee. As to the revision of the directive, the Commission was to produce a report on the possible further broadening and development of the ETS, for submission to the Parliament and the Council by 30 June 2006. On the method of allocating allowances, the Parliament did not win through fully. The outcome was not that a specific percentage of allowances would be auctioned after 2008. Instead, a more indirect approach was chosen, whereby at least 95 per cent of the allowances were to be allocated free of charge before 2008, and at least 90 per cent after 2008. Article 30(2)(c) also anticipated further harmonization of the method of allocation, including auctioning for the period after 2012. As to other issues, we should note that on the question of credits from the project mechanisms of the Kyoto Protocol, the Parliament did not get its requested ‘guarantee’ that priority should be given to domestic action. However, it was stated that the use of the mechanisms should be ‘supplemental to domestic action’ and such action should ‘constitute a significant element of the effort made’. The setting of a cap on linking would become one major issue in the negotiations on the Linking Directive (see next section). The Parliament was moderately successful with regard to the inclusion of other sectors and gases. A general broadening remained optional and dependent upon the outcome of the subsequent review, but the chemicals, aluminium and transport sectors were at least explicitly mentioned as particularly relevant candidates for possible broadening. We can now sum up the main steps and outcomes in the process. Table 5.4 shows how the Parliament’s proposals became watered down over time:

117 Ibid., 22–23. 118 Council (23 June 2003), Revised Council Proposal for Second Reading Agreement on Greenhouse Gas Emissions Trading. Brussels; ENDS Daily (25 June 2003), ‘EU Climate Emissions Trading Breakthrough, Issue 1470; Euractiv (27 June 2003), ‘EP and Member States find compromise on Greenhouse Gas Emissions Trading’.

Table 5.4

ET proposal, Parliament proposals and final outcome

Type of system

Coverage/scope

Commission proposal October 2001

Mandatory system, but decentralized setting of emission caps

Start with CO2 only and four targeted ‘activities’

Changes suggested in Parliament first reading

Cap on total quantity of allowances to be allocated to each member-state

All six Kyoto gases

Opt-in of additional sectors and activities from 2008 on

Chemicals and aluminium sectors also included

Method of allocation

Compliance and enforcement

Free of charge allocation in pilot phase; next phase to be decided in 2006 review

Penalty: either €50 (pilot phase)/ €100 (Kyoto phase) or twice the average market price – ‘whichever is higher’

Mandatory auctioning of 15% of allowances in both pilot and Kyoto phases

No changes suggested

Method of allocating allowances should be harmonized, with allocation free of charge in pilot phase, and 5% auctioning from 2008

No changes suggested

At least 95% of the allowances to be allocated free of charge before 2008, and at least 90% after 2008

Penalty: €40 (pilot phase)/ €100 (Kyoto phase)

Temporary exemption/opt-out of individual installations Opt-in of additional sectors and activities already from 2005 Changes suggested in Parliament second reading

National ceiling/’cap’ for emission allowances to prevent over-allocations, based on a linear curve consistent with the memberstate’s Kyoto commitments

Temporary and limited opt-outs for installations should be possible under three strict conditions

Final outcome: the ET directive

Total amount of allowances Temporary opt-outs only for installations, should be ‘consistent with but not for whole sectors a path towards achieving or over-achieving’ Kyoto targets The Commission to produce report on further broadening and development of the ETS to the Parliament and the Council by June 30 2006

The directive should be revised in 2006 to include other sectors, especially the transport sector

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This outcome of the negotiations was then accepted by the Parliament in plenary on 2 July, at which time 17 amendments, mostly minor clarifications, were also adopted.119 Only 4 votes were cast against the ET directive at this final reading (Vis 2006a, 40). On the whole, the Parliament’s ET rapporteur da Silva was very satisfied with the outcome: ‘With this agreement we both avoided a long conciliation procedure and we improved the integrity of the Directive. The scheme is now environmentally more ambitious, economically more efficient, with less distortions of competition and more compatible with national policies already being implemented’.120 The Commission then expressed its formal opinion on the outcome on 18 July 2003, discussing and (not so surprisingly) accepting the 17 amendments adopted by the Parliament on 2 July.121 The Council formally adopted the directive on 22 July 2003. As the final step in this part of the story, the ET Directive became formal EU law when it was published in the EU Official Journal on 25 October 2003.122 The Linking Directive As we concluded in the section on the member-state positions, the Linking Directive became noticeably influenced by member-state interests. The changes of the timing that CDM could not be used until 2008, the quantitative cap on JI/CDM credits as a percentage of the total quantity of member-state allowances, and to a lesser extent, the qualitative restrictions concerning sinks, nuclear and hydropower – all these can largely be credited to the positions of the member-states. However, also the EU institutions affected the design of this directive, which was adopted by the co-decision procedure, as the EU ET Directive. The Commission’s proposal for a linking directive was issued on 23 July 2003. As mentioned, it set no explicit quantitative cap on the import of JI and CDM credits, but suggested that the Commission should monitor the import. Once 6 per cent of the total quantity of member-state allowances had been reached, the Commission would review the situation and consider ‘a maximum of for example 8%’. Concerning timing, the proposal allowed for CDM credits to be used in the ETS only from

119 European Parliament (2 July 2003), Greenhouse Gas Emission Allowance Trading, European Parliament Legislative Resolution on the Council Common Position with a View to Adopting a European Parliament and Council Directive Establishing a Scheme for Greenhouse Gas Emissions Allowance Trading within the Community and Amending Council Directive 96/61/EC (15792/2002-C5-0135/2003-2001/0245 (COD), P5_TA/2003)0319. 120 Point Carbon (27 June 2003), ‘Improved Integrity, says da Silva, Point Carbon, Carbon Market Europe, 2. 121 European Commission (18 July 2003), COM(2003)463 final, Opinion of the Commission pursuant to Article 251 (2), third subparagraph, point (c) of the EC Treaty, on the European Parliament’s amendments to the Council’s common position regarding the proposal for a Directive of the European Parliament and of the Council establishing a scheme for greenhouse gas emission allowance trading within the Community and amending Council Directive 96/61/EC (Brussels). 122 ENDS Daily (30 October 2003), ‘EU Emissions Trading Law Enters into Force’, Issue 1542.

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January 2008.123 With regard to qualitative restrictions, credits resulting from nuclear projects were banned from use for an unspecified period, whereas the exclusion of sinks would be limited to the first Kyoto period. Credits from hydropower plants were to be allowed as long as they took ‘account of environmental and social impacts’. The Parliament demanded that the directive should be at least as restrictive as in the proposal. It seems as if, not having achieved what they wanted during the ET process, some MEPs now sought ‘payback’ in the form of tighter restrictions on the project mechanisms.124 The ENGOs strongly opposed any link with the Kyoto Protocol’s flexible mechanisms and would, as a second-best option, support any further restrictions to the proposal. The main argument used against linking between the EU ETS and the Kyoto Protocol’s flexible mechanisms has been that it might weaken the incentives to reduce GHG emissions inside the EU. In contrast, a majority of EU member-states preferred less restrictions than proposed by the Commission, and industry generally preferred as few restrictions and as much linking as possible. The main argument for using CDM/JI for complying with targets under the EU ETS has been that the project-based mechanisms can reduce compliance costs by providing greater opportunities to reduce emissions outside the EU at lower costs. The Commission had hoped to secure an agreement on the proposal as early as December 2003, but this timeframe would soon prove overly optimistic.125 Not only did the proposal get a lukewarm reception from the Parliament and several memberstates, the Commission was also internally divided on the issue (Michaelowa 2004, 13). The conflict was most apparent when an unfinished draft of the linking proposal was leaked by the Environment Directorate in June, resulting in internal dispute in the Commission, protests from industry and the delay of the official proposal.126 This was hardly an ideal starting point for a Commission that wanted to exercise a ‘smoothing’ role in the upcoming negotiations. The mood in the Council was quite different. Most ministers preferred establishing a link already from 2005, and they were against setting a quantitative limit altogether. As to qualitative restrictions, the ministers were more divided. France demanded acceptance for credits from nuclear projects throughout the process; and several states, particularly southern ones, wanted acceptance for sink credits. The differences were so severe that the linking negotiations basically stood still throughout 2003. Two factors seem to have been decisive in getting the ball rolling again. First, there was the tactic manoeuvre by the Parliament’s rapporteur Alexander de Roo. At various meetings in December 2003 he indicated that he wanted agreement on the proposal before the 2004 elections to the EP; and, for such agreement to be reached, the Parliament could be flexible on the cap if the qualitative provisions remained sufficiently robust (Lefevere 2006, 127). In other words, if a Council majority could 123 This despite of the fact that the Kyoto Protocol allowed the use of CDM credits before 2008. 124 ENDS Report (September 2003), ‘The Clean Development Mechanism: Kyoto Comes Home to Roost’, Issue 344. 125 Ibid. 126 Environment Finance (18 July 2003), ‘Commission Axes Credit Cap in “linking directive”’; Michaelowa 2004, 13.

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back restrictive rules on nuclear credits, sink credits and hydropower credits, a deal could be brokered on moderating the cap. Then there was the time factor. If agreement were not reached before the end of April 2004, at which point the Parliament would dissolve for elections and summer hiatus, that would mean waiting until late 2004 or perhaps even till 2005 before any further progress could be made. A little push for speed in the negotiations could save six months or more. With the New Year, the Irish, who had just taken over the Presidency, promised to ‘aim to secure agreement with the Parliament at first reading’.127 And throughout the negotiations, the Presidency took care sure to remind the parties of their ‘extremely tight timetable’.128 Both the time pressure and de Roo’s proposal seemed to work. The proposed deal was reflected in the draft report from the EP Environment Committee in late January 2004,129 and was further discussed at meetings of the Working Party on the Environment.130 And, reported in the Council Minutes, during the spring there were several informal contacts between the Presidency and the rapporteur.131 On 16 March the EP Environment Committee tabled a position containing 18 amendments to the Commission’s original proposal. It suggested that the issue of a cap should be left to the member-states to decide, and also argued that credits should be available from 2005, instead of 2008, which would be good news for European industry. Campaigners saw the committee’s vote as a ‘pre-concession’ prior to the negotiations:132 the interests of the member-states and industry had already been taken into account. Rapporteur de Roo, however, having underlined the need for 127 Point Carbon (7 January 2004), ‘EU Institutions Hope to Clinch Linking Deal by May’. 128 See for instance Council (4 March 2004), Note 6490/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Revised Presidency Compromise Proposal. (Brussels: Council of the European Union, General Secretariat). 129 European Parliament (27 January 2004), Draft report from the Committee on the Environment, Public Health and Consumer Policy. 130 See, for instance, Council (6 February 2004), Note 5975/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms. (Brussels, Council of the European Union, General Secretariat). 131 See Council (22 March 2004), Note 7652/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Examination of EP ENVI Committee Amendments with a View to a Possible First Reading Agreement with the EP (Brussels: Council of the European Union, General Secretariat); and Council (26 March 2004), Working Document 7844/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms – Revised Presidency Compromise Proposal (Brussels: Council of the European Union, General Secretariat). 132 ENDS Daily (16 March 2004), ‘MEPs Yield to EU States in Kyoto Linking Cap’.

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‘robust’ restrictions, was happy the Committee had managed to reject the efforts by centre-right MEPs to allow sink credits, and said the EU was now ‘99.9 per cent certain’ to finalize the directive by April.133 De Roo’s timing predictions proved correct. On April 5 the parties reached an informal agreement, trading off the demands of the Council (on timing and the cap) against the demands of the Parliament (on qualitative provisions).134 On 20 April the deal was made official, when the Parliament, perhaps reflecting its eagerness to get the directive adopted before the summer deadline, approved the compromise package and thereby avoided time-consuming conciliation135 – even if this left the final directive at quite a distance from what the Parliament had originally wanted.136 There would be no common cap,137 and CDM credits could be used from January 2005. The Parliament’s demands for solid qualitative restrictions were met only in part: whereas nuclear activities were excluded indefinitely in the original proposal, they were now explicitly excluded only till 2012 (due to pressure from France, as noted earlier). Sinks were also excluded only temporarily – possible inclusion for the first Kyoto commitment period would be reconsidered in 2006. Only with regard to hydro-projects was there a clearer regulation than in the original proposal: hydroprojects with capacity over 20MW would have to comply with the rules set by the World Commission on Dams. In sum, although the Parliament and rapporteur De Roo stand out as skilful players taking on a responsible and more comprehensive EU perspective in an atmosphere of urgency, the Parliament paid a high price in terms of concessions. Only in the case of big hydro-projects did it manage to nudge the proposal in a more restrictive direction. Furthermore, since the Commission’s initial proposal was changed substantially, the Commission must be said to be less successful than in the case of the EU ET Directive. This may be traced back to the fact that the Commission was more split on this issue. In addition, there seems to have been a closer match between the position of a majority of the member-states and industry in the linking case, as compared to the foregoing EU ETS process. With the time factor, the EU institutions had to give in and accept linking with few restrictions. Conclusion In Chapter 2, we proposed that the final ETS would reflect the positions of the Commission and the Parliament, according to the EU institutional perspective. As a first observation in relation to this proposition, we may conclude that key elements of the Commission’s proposal for an ET directive managed to survive the 133 Ibid. 134 Lefevere 2006, 127; ENDS Daily (14 September 2004), ‘Ministers Adopt EU Kyoto Linking Law’. 135 Only a few MEPs from the UK Independent Party voted against it. 136 European Parliament (20 April 2004), Position of the European Parliament. 137 It was, however, warned that the Commission could make proposals following its mid-2006 review to harmonize the member-states’ caps.

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numerous twists and turns of the decision-making process. The overall approach on harmonization and centralized control leant towards the decentralized side, with no harmonization and centrally set caps on the quantities of allowances issued. Furthermore, the system laid out in the ET directive was a mandatory system. The initial system would target only CO2; sectoral coverage, in terms of activities listed in the directive, was identical to the Commission’s proposal. Allocation free of charge was the dominant allocation method in the pilot phase 2005–07. The penalty level for non-compliance in the directive was roughly similar in the pilot phase (€40 instead of the proposed €50), and identical in the Kyoto commitment period (€100). The main design of the links between the EU ETS and Kyoto Protocol’s flexible mechanisms would be settled in a subsequent, separate directive. Hence, it is tempting to jump to the conclusion that the Commission, through its proposal, essentially determined the final EU ETS design. As pointed out in the section on member-state positions, however, the actual and anticipated diversity in the interests of the majority of the member-states was to a significant extent taken into account in the Commission proposal. Moreover, some changes were actually made by the member-states in the course of the decision-making process. Nevertheless, the Commission continued to play an important role in the decision-making phase: by arguing against many of the EP proposals, by providing information, and generally on the basis of its formal position in the co-decision procedure. The Parliament has more formal power in the decision-making process than the Commission, but not necessarily more actual influence. The EP’s influence on the final directive was moderate. The main changes to the proposed ET directive that can be attributed the Parliament include prevention of opt-out of sectors; explicit mention of the chemicals, aluminium and transport sectors for future inclusion; and a limited opening up for allocation by auctioning. In addition, with regard to the Linking Directive, the EP obtained an inclusion of reference to rules set by the World Commission on Dams concerning hydropower projects. As discussed earlier, the moderate impact was due to resistance from the Commission; furthermore, on major issues the Parliament was up against an ‘alliance’ between the Commission, a majority of member-states and industry; and there were too many proposals and hence a lack of focal points. The Commission and the BEST group continued to play a vital and active role in the process, by giving formal comments along the way, and providing more informal support in connection with the process of hammering out the Council’s common position. In addition, the second reading shows that the time factor became important. In the final spurt the Parliament was very reluctant to end up as the one left holding the bag, the one who wrecked the ambitious timetable and delayed the start-up of the scheme. Let us now see how the international climate regime contributed to make the time factor so (increasingly) important in the decision-making process. The International Climate Regime Context To what extent and how did the international climate regime affect the EU ETS decision-making process? More specifically, how did the climate regime affect

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the adoption and design of the EU ETS? In Chapter 2, we argued that political attention in the decision-making phase is likely to be directed internally, towards EU institutions and actors with a formal role to play in the decision-making process. However, significant changes in the institutional context may penetrate and affect internal decision-making process under certain conditions like ‘shocks’ and ‘crisis’. Under such conditions, we surmised, the EU ETS might be affected by developments within the climate regime. As we shall see below, the US withdrawal from the Kyoto Protocol and subsequent uncertainty about ratification of the Protocol significantly affected the EU ETS decision-making process. US Exit from Kyoto Something had changed, from the March 2000 Green Paper to the consultation process with member-states in September 2001. In 2000, the member-states disagreed on most aspects related to the design and harmonization of emission trading. And yet, in 2001, a majority of the member-states agreed on the basic design. Likewise, the consultation processes with industry and ENGOs showed an ‘overwhelming majority’ in favour of proceeding with emissions trading, sooner rather than later. The most important change to take place in this period was the decision by President George W. Bush to withdraw the USA from the Kyoto Protocol. This decision made entry into force of the Kyoto Protocol uncertain, as the Protocol requires ratification by 55 Parties accounting for at least 55 per cent of 1990 CO2 emissions from that group. The US alone accounted for 34 per cent of Annex 1 1990 emissions. As we shall see below, the US withdrawal from the Kyoto Protocol served to make the EU ETS into an instrument that could rescue the Protocol. The first indication that the Bush administration was reconsidering its position on the Kyoto Protocol came at the time the Commission started drafting the ET directive, shortly after the inauguration of the new US administration in January 2001. After the failure to finalize the rules of the Kyoto Protocol at CoP-6 in The Hague in November 2000, a new global effort was scheduled for Bonn in May 2001. The new US government wanted to postpone the conference until July. The official reason given was that that new administration needed time to review its global climate policy.138 The EU reluctantly acceded to the US demand. In March 2001, Bush announced his opposition to the Kyoto Protocol, arguing that it exempted developing countries, would cause serious harm to the US economy and was based on incomplete scientific knowledge. These statements were followed up by the head of the US Environmental Protection Agency (EPA) and substantiated by a decision not to limit power-station CO2 emissions as promised during the election campaign.139 The US decision to withdraw from the Kyoto Protocol might have been foreseen even though President Clinton had signed the Kyoto agreement in 1998. Prior to the Kyoto negotiations, the US Senate had delivered a clear message 138 ENDS Daily (25 January 2001), ‘USA Demands Further Delay in Climate Talks’, Issue 917. 139 ENDS Daily (14 March 2001), ‘EU Spooked by Bush U-turn on CO2 Limits’, Issue 951.

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to the Clinton-Gore administration. In a unanimous 95–0 vote, the Senate stated that it would not accept several of the conditions codified in the Kyoto Protocol. It voted against any treaty that would exempt developing countries from legally binding commitments and imply higher energy costs, particularly on petrol (the Byrd-Hagel resolution of 25 July 1997). For the Kyoto Protocol to be ratified by the US Senate, and thus become US law, it would have to receive 67 out of 100 senatorial votes. Prior to the 2000 elections, the democratic candidate, Vice-President Al Gore, would probably put all his political weight into persuading the Senate to ratify. However, Gore had low standing in the Senate and would in any case face considerable opposition. The Republican candidate, George W. Bush, would enjoy higher standing in the Senate, but would not push for ratification. If the US had ratified the Kyoto Protocol, the US target under the Protocol, of reducing its emissions by 7 per cent compared to 1990 levels within the period 2008–12, would still be out of reach.140 This would require dramatic domestic cutbacks combined with anticipated time-consuming legal action initiated by industry and environmental groups against the EPA. The perception among major US companies and other stakeholders was thus that the Protocol was ‘dead on arrival’ (Skjærseth and Skodvin 2003). With the benefit of hindsight, we can say that the US withdrawal should have come as no surprise. For the EU, however, the US withdrawal from the Kyoto Protocol was unexpected, although there had always been concern about US ratification. In February 2001, for example, Danish environment minister Svend Auken had suggested that ideally the Kyoto Protocol should be renegotiated to bridge the gap between the EU and the USA. He sympathized with a WWF-Denmark proposal to allow the USA to stabilize its GHG emissions at 1990 levels by 2008–12 rather than its commitment to a 7 per cent cut.141 Representatives of the European Commission saw the US decision as ‘a blow’ which led to a sense of crisis.142 The US decision to dump the Kyoto Protocol was taken very seriously by the top EU leaders, who responded immediately. In a letter to Bush, Romano Prodi (President of the European Commission) and Swedish Prime Minister Göran Persson (acting in capacity of the Swedish EU Presidency) urged a high-level meeting to discuss the future of the Kyoto Protocol. The European Council followed this up in a resolution from the March 2001 Stockholm summit, expressing its deep concern regarding the fate of the Protocol. And Environment Commissioner Margot Wallström led a highlevel delegation to Washington to clarify the US position. It received a clear answer:

140 Since 1990, US emissions had increased by over 14 per cent, and were expected to increase by at least 1 per cent each year for the next decade. This meant that emissions would have to be reduced by more than 30 per cent during the agreement period. The Kyoto Protocol allows for emissions trading, but many doubted the political realism of the USA becoming a major buyer of quotas from Russia. Even if large-scale quota-buying could come about, powerful domestic measures would still be needed to achieve reductions in the order of 30 per cent. 141 ENDS Daily (26 February 2001), ‘Auken Calls for All-out Action on Climate’, Issue 939. 142 Interviews in Brussels, 12 January and 15 May 2006.

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the USA would not ratify.143 Despite the negative signals from Washington, the EU decided to continue with its preparations for the resumed CoP-6 in Bonn in July. The consequences of the US exit for the proposed ET directive could go in two opposite directions. First, it could strengthen the arguments of actors sceptical or opposed to emissions trading at the European level. A regulative restriction on carbon emissions in Europe could weaken the competitive situation for European companies in relation to the USA and the OECD. Without US ratification, almost all other major emitters in the industrialized world (Japan, Canada) plus countries with economies in transition (Central/Eastern Europe and Russia) would have to ratify. The Bush administration thus referred to the agreement as ‘dead’ after his decision to withdraw (Schreurs 2004, 208). The US exit could effectively undermine the growing support for the proposed ET directive unless enough other countries agreed to ratify.144 Particularly Germany and German industry was not – to say the least – particularly enthusiastic about the Commission’s plans of a cap-and-trade system at EU level. The dilemma for Germany was that the EU ETS became an important part of the ‘save the Kyoto’ campaign. And some European industries exposed to significant international competition actually used the US exit to argue against the plans for a cap-and-trade system.145 Such arguments drowned, however, in the unifying effect. The second and chief effect of the US rejection of the Kyoto Protocol was that it helped unify the actors and institutions involved in developing EU climate policy. As noted by Brussels insiders, ‘the huge impetus the Commission used was Bush’s withdrawal. It united the EU in an extraordinary way’.146 Romano Prodi and Göran Persson said in a statement that it was ‘shocking to European ears’ that the USA did not intend to make any effort to tackle climate change unless other countries with fewer resources did so.147 According to Schreurs (2004, 209): ‘The Bush decision (…) so angered the Europeans that they were able to overcome internal disagreements and present a strong united block supporting the Kyoto Protocol … Seldom in history has the EU criticized the US as forcefully as it has over this issue’. Furthermore: ‘In the subsequent months [after the US exit] climate change and the Kyoto Protocol became defining issues for the European Union, and importantly, issues on which it was united, and one on which it saw itself at the forefront of the international efforts. Public opinion was supportive of such a stance’ (Vis 2006a, 40). This effect extended far beyond the EU, and facilitated broad international support for the Protocol (Yamin 2005b). More specifically, the US withdrawal unified positions and increased the support for the EU ETS from member-states, industry, ENGOs and probably within the Commission itself as well. Suddenly, the relationship between the EU and the USA 143 ENDS Daily (4 April 2001), ‘Washington Climate Talks Leave EU Disappointed’, Issue 966. 144 Strictly legally speaking, however, the proposed ET directive was deliberately not made conditional upon the entry into force of the Kyoto Protocol. 145 Interviews in Brussels, 15 May 2006. 146 Interviews in Brussels, 26–27 May 2004. 147 ENDS Daily (10 April 2001), ‘EU Claims Global Support for Kyoto’, Issue 970.

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over climate policy became high politics. According to the statement by the EU Heads of State at their summit in Gothenberg in June 2001, which coincided with the EU-US summit attended by George W. Bush: ‘the Community and the Memberstates are determined to meet their commitments under the Kyoto Protocol’ and reaffirm their ‘commitment to deliver on the Kyoto targets’ (Slingenberg 2006, 33). The US withdrawal from the Kyoto Protocol made the Commission significantly advance its agenda on the ET directive proposal. In March 2001, the EU Environment Council singled out the work based on the Green Paper on emissions trading as ‘of particular importance’ for the EU’s efforts to combat climate change.148 As noted earlier, Environment Commissioner Wallström instructed the Climate Change Unit to prepare the draft directive to be adopted by the Commission before CoP-6 in Bonn, to show the outside world that the EU was still taking the Kyoto Protocol seriously. The US exit did not, however, affect the design of the planned ET scheme, as the main structure of the ET directive proposal was well advanced by March 2001. The Commission had the tools to make the ‘save Kyoto campaign’ credible to other major industrial emitters by preparing for emissions trading. According to Vis (2006a, 40): ‘Emissions trading came to be seen as the practical measure that would test the credibility of the EU’s promises to act’. The Proposal for an ET directive was depicted as the key measure for implementing the Kyoto Protocol; a direct linkage was made to efforts to save the Kyoto Protocol by accompanying the ET directive proposal with a proposal for a Council Decision to ratify the Kyoto Protocol.149 This move increased support for the directive in the Council of Ministers, which had declared their determination to ratify the Protocol. In this way, EU implementation of the Kyoto commitments became deliberately linked to the ratification of the Kyoto Protocol. The US rejection thus placed the draft ET proposal in the spotlight and raised emissions trading to the top of the EU agenda. This was perceived by the Climate Change Unit in the Commission as a ‘window of opportunity’ for realizing plans for a European emissions trading system, and for the EU to show leadership in global climate diplomacy.150 The EU’s leadership ambition expressed itself in diplomatic efforts to win the support of other states to ratify the Kyoto Protocol. Shortly after Bush’s announcement that the US would reject the Kyoto Protocol, the Swedish President of the Environment Council declared that EU would ratify the Kyoto Protocol, with or without the USA. Ratification by the EU was timed to occur prior to the 2002 Johannesburg summit. A statement adopted unanimously by all EU environmental ministers read: ‘The Kyoto Protocol is still alive – no individual country has the right to declare a multilateral agreement as dead’.151 This declaration was reaffirmed at the Environment Council meeting in June 2001: ‘The European Union maintains the 148 Council (8 March 2001), 6752/01, 2334th Council Meeting Environment. Presse 93, 2001, Brussels, 5. 149 A communication on implementing the European Climate Change Programme was also presented. Council (29 October 2001), 12994/01, 2378th Council Meeting Environment. Presse 372, 2001. Luxemburg. 150 Interviews in Brussels, 12 January and 15 May 2006. 151 ENDS Daily (2 April 2001), ‘EU “Will Ratify Kyoto without USA”’, Issue 964.

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target of ratification and entry into force of the Kyoto protocol by 2002, striving for the broadest possible participation of Annex I countries, and to that end the European Community and its member-states have started their internal preparations’.152 EU environmental leaders representing the Council and the Commission immediately visited Canada, Russia, Japan and other countries to garner support for the Protocol and ensure them that the EU was determined to ratify. This response surprised the Bush administration, which had expected that the EU would simply join the USA in abandoning the agreement (Schreurs 2004, 209). Had that happened, then the EU ETS could have been abandoned as well: if the Kyoto Protocol had collapsed, it would most probably have been detrimental to the outcome of the EU ETS decision-making process. The fact that the US exit from the Kyoto Protocol provoked the EU and served to strengthen its determination to push for ratification of the Kyoto Protocol and the EU ETS should be understood in a historical context. Since 1990, the EU has aimed at leadership in global climate diplomacy. The EU adopted a stabilization target as early as in 1990 and argued for binding reduction targets in the UNFCCC concluded at the 1992 Rio summit (see Chapter 1). The EU’s position was significantly more ambitious than that of the USA, and reflected different constellations of interests, access to decision-making, principles and regulatory cultures across the Atlantic (Schreurs 2004). Although the gap narrowed somewhat during the Clinton Administration, the EU, led by Germany, was the main driving force behind the ‘Berlin Mandate’ and the binding commitments agreed in Kyoto, even though the EU preferred more ambitious targets, more domestic efforts and less flexibility. The time and energy invested by the EU in moving international commitments toward quantified and binding reduction objectives indicate a definite commitment to follow through. The strong EU reaction was also not so surprising in light of new and more alarming conclusions presented by the Third Assessment Report of the Intergovernmental Panel on Climate Change, which indicated a more rapid rise in temperatures than previously feared, and with significant impacts. Parts of this report were published shortly before Bush’s decision to withdraw. In a response, the EU Environment Council concluded: ‘The Council takes seriously the emerging conclusions of the Third Assessment Report of the IPCC, which confirm and reinforce that need for urgent action to tackle climate change’.153 This perception was strengthened later (in October 2002): ‘The Council REITERATES its deep concern about the robust findings in the TAR [Third Assessment Report], and NOTES with deep concern the important message of the IPCC that human interference with the climate system carries a risk of triggering irreversible or abrupt changes’.154

152 Council (7 June 2001), 9116/01, 2355th Council Meeting Environment. Presse 201, 2001. Brussels, 12. 153 Council (8 March 2001), 6752/01, 2334th Council Meeting Environment. Presse 93, 2001. Brussels, 5. 154 Council (17 October 2002), 12976/02, 2457th Council Meeting Environment. Presse-320, 2002. Luxemburg, 17.

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The new US programme on climate change strategy was not published until February 2002, and the EU Environment Council discussed the US programme in March 2002. While confirming that the EU was willing to continue dialogue with the USA, the Council concluded: having studied the initiative on climate change presented by President Bush on 14 February 2002, [the Council] is concerned about the proposed measures, which allow an increase of greenhouse gas emissions at nearly the same rate as at present and are not sufficient effectively to fight climate change…calls upon the parties to the United Nations Framework Convention on Climate Change, including the United States of America, the biggest emitter of greenhouse gases, to live up to their responsibility under this Convention, which requires industrialized countries to return their greenhouse gas emissions to 1990 levels.155

Proposing the ET directive: Bonn and Marrakech The US rejection of the Kyoto Protocol also led the EU to accept significant modifications during the Bonn negotiations, in order to ensure the support of important states like Japan. The survival of the Protocol itself during 2001 became crucial for the rapid progress of the ET Directive. The purpose of CoP-6 in The Hague in November 2000 was to implement the Buenos Aires Plan of Action, paving the way for the entry into force of the Kyoto Protocol. CoP-6 negotiations collapsed due to disagreement on several issues, including whether a cap should be placed on the use of flexible mechanisms.156 The EU preferred that at least 50 per cent of emissions reductions should be achieved by domestic policies and measures, whereas the USA insisted that there should be no limits on their use. However, during the negotiations there were signs that the EU was willing to relax its emphasis on quantitative caps in favour of a qualitative limit on the use of the flexible mechanisms.157 The EU argued that if there were no limits on the use of the flexible mechanisms, that would threaten the environmental integrity of the Protocol by allowing ‘loopholes’ regarding domestic attainment of the agreed targets. Delegates agreed to suspend CoP-6 and to resume their work in 2001. Against this background and the US announcement to reject the Kyoto Protocol, the EU developed its position through various preparatory meetings for the resumed CoP-6 in Bonn in July. The general EU position was made clear at the June 2001 meeting of the EU Environment Council: The European Union is ready to negotiate in a constructive spirit with all partners on all outstanding issue in Bonn. While we are prepared for compromises, we consider it essential to underline the importance of the fundamental elements of the FCCC and the Kyoto 155 Council (4 March 2002), 6592/02, 2413th Council Meeting Environment. Presse 47, 2002. Brussels, 5. 156 The other issues were ‘sinks’, funding and compliance. 157 Earth Negotiations Bulletin (27 November 2000), ‘Summary of the Sixth Conference of the Parties to the Framework Convention on Climate Change: 13-25 November 2000’, 12:163.

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Protocol, including the legally binding emission limitation and reduction commitments, in order to ensure a long-term sustainable global climate policy. The Council reiterates that any agreement must safeguard the environmental integrity, must lead to real reduction in greenhouse gas emissions, and be supported by a credible compliance and liability system.158

While emphasizing the environmental integrity of the Protocol, the Ministers did not explicitly mention the previous insistence on a cap on the use of the flexible mechanisms. In Bonn, the EU and Japan became the major players, with the USA on the sidelines. The US delegation had committed not to interfere with the talks, whereas Japan’s position was crucial to fulfilling the conditions for the Protocol to come into force. Moreover, Japan pledged to try – ‘to the last minute’ – to persuade Washington to reconsider its position.159 The agreement in Bonn on outstanding issues came as a surprise to most observers. But the price was high, as the EU had to yield on several issues. No quantitative cap was placed on industrialized countries regarding the use of flexible mechanisms to meet their emission targets. In line with the Kyoto Protocol, however, the flexible mechanisms were to be supplemental to domestic action, which should constitute a significant element of the reduction effort. Rules were also agreed on compliance, ‘sinks’ and funding.160 From an environmental integrity perspective, the agreement reached at the inclusion of sinks has been deemed a major setback (Yamin 2005b, 8).161 The rulebook was agreed at CoP-7 in Marrakech in October 2001. The agreement in Bonn and Marrakech strengthened the Commission’s determination to adopt the proposal for an ET directive by the end of 2001. As the EU ETS was depicted as the key measure for implementing the Kyoto Protocol, ensuring the survival of the Protocol itself became crucial to the rapid proposal and adoption of the ET Directive. The rules for international emissions trading agreed in Bonn and Marrakech did not, however, significantly affect the design of the EU ETS, as the proposed ET directive was directed towards companies, nor governments, and the main structure of the proposal was ready before these conferences. The Commission worked to ensure compatibility between the international emissions trading system and the EU trading system. In practice, the Commission has had an important say in the development of EU positions in the international climate negotiations even though the Council formally adopts its position prior to or during the CoPs (Slingenberg 2006, 23). The EU is represented in negotiations by a troika: the country currently holding the Presidency, the country next in line, and the

158 Council (7 June 2001), 9116/01, 2355th Council Meeting Environment. Presse 201, 2001. Brussels, 11. 159 ENDS Daily (16 July 2001), ‘Global Climate Talks Reopen in Bonn’, Issue 1031. 160 Earth Negotiations Bulletin (176, 2001), Summary of the Resumed Sixth Session of the Conference of the Parties to the UN Framework Convention on Climate Change: 16-27 July, 2001’, 12:176; ENDS Daily (23 July 2001), ‘Kyoto Protocol Rulebook in Summary, Issue 1036. 161 The availability of sinks is important for the degree to which each country has to reduce GHG emissions.

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Commission. Since the CoPs take place every year, the Commission is the stable factor in the EU’s participation in international negotiations (ibid.). Jos Delbeke and the BEST team served as the chief negotiator for the European Commission at the UNFCCC Conference of the Parties. The climate change unit in DG Environment participated in all Conferences of the Parties to the UN Framework Convention on Climate Change and guarded the EU emission trading plans. The Commission would have opposed any proposals for amendments in the international system that did not fit with the plans for the EU system.162 In conclusion, then, we may say that the US rejection caused the EU to make significant sacrifices to reach agreement in Bonn and Marrakech. The agreement that was reached served to strengthen the EU’s determination to adopt the proposed ET directive in 2001. However, these international events did not significantly affect the design of the proposed ET directive. Other External US Influence As noted earlier, a broad range of EU internal stakeholders actually lobbied the European Parliament to accept the common position in the Council of Ministers. Concurrently, external lobby groups representing the traditional interests of the fossil fuel lobby did what they could to sink the Kyoto Protocol and the EU ETS. Whereas Washington honoured its commitment not to interfere with the negotiation in Bonn, private US interests lobbied intensively against ratification of the Kyoto Protocol and the emerging EU ETS. Shortly after the ET directive was proposed, the American Council for Capital Formation (ACCF) published studies predicting adverse consequences for the European economy and employment that would accrue if Kyoto Protocol targets were to be met by emissions trading. Founded in 1973, the ACCF is a US based think-tank and lobby organization with an affiliate in Brussels, the International Council for Capital Formation (ICCF) led by Managing Director Margo Thorning. The climate policy of ACCF/ICCF appears as a blueprint of the climate policy of the Bush administration: ‘The ACCF makes the case that, given the need to maintain strong U.S. economic growth and energy security, policy-makers should develop a flexible long term approach … based on technological innovation … and bilateral cooperation with developing countries’.163 In its climate policy studies, ACCF stresses the high costs and ineffectiveness of emissions trading and mandatory carbon-emission reduction targets. The ACCF is funded by corporations, associations and foundations and allocates about 25 per cent of its expenditures to influencing legislation.164 Representatives of major US industry federations like the American Petroleum Institute (API) sit on the Board of Directors. The lobby campaign in Brussels was undertaken primarily on behalf of US-based multinational companies with significant operations in Europe 162 Interviews in Brussels, 15 May 2006. 163 American Council for Capital Formation, ‘ACCF Climate Change Studies and Reports’ [website] , accessed 15 June 2007. 164 American Council for Capital Formation, ‘About ACCF, ACCF Mission’ [website] , accessed 15 June 2007.

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that would be affected by the EU ETS.165 API and particularly ExxonMobil – the biggest private oil company in the world – lobbied intensively against any mandatory climate policy, the Kyoto Protocol in particular (Skjærseth and Skodvin 2003). From the 2000 Green Paper on emissions trading, refining was included as one of the sectors to be included in the EU ETS. ExxonMobil is the second-largest crude oil refiner in Europe, with interests in 11 major refineries.166 ACCF reports on the adverse consequences of the climate policy of the EU were taken seriously at the top level in the Commission. The ACCF argued that the allowance prices needed to reach the Kyoto target would lead to 3.8–5.2 per cent lower GDP in 2010 in Germany, Spain, the UK and the Netherlands. In turn, Environment Commissioner Wallström defended the ET proposal by referring to the Commission’s own work showing that the costs could be as low as 0.06 per cent of expected GDP in 2010, adding that the ACCF studies were ‘far off conventional wisdom’.167 According to the Commission, the IPCC had forecast a range of 0.1 to 2 per cent of GDP.168 The ACCF organized meetings with European industrial federations, the European Parliament, EU member-states and the Commission to influence the fate of the Kyoto Protocol and the EU ETS. The lobby campaign was mainly perceived as ‘aggressive’, ‘crude’ and ‘counterproductive’.169 The premises for the arguments produced by the ACCF were successfully attacked by the Commission and not picked up by major European industry federations like UNICE. The effect of ACCF’s lobby campaign against the Kyoto Protocol and the proposed ET directive was thus limited. Still, it added to the numerous stumbling blocks that had to be overcome by the EU. Ratification of the Kyoto Protocol There was a real risk that the Kyoto Protocol could collapse from the time of the first ET directive proposal to the adoption of the final ET Directive. In March 2002, the Environment Council reached an agreement to ratify the Kyoto Protocol.170 This agreement was formalized as a Council Decision in April and, together with ratification from member-states, aimed at enabling the Kyoto Protocol to enter into 165 ENDS Daily (13 September 2002), ‘Transatlantic Climate Cost Dispute Rumbles On’, Issue 1286. 166 Six refineries are fully owned and operated and three more are operated by ExxonMobil as majority shareholder. ExxonMobil, ‘Our Business in Europe’ [website] , accessed 15 June 2007. 167 ENDS Daily (12 July 2002), ‘EU Climate Change Cost Estimates Disputed’, Issue 1256. 168 The ACCF was criticized by the Commission for looking only at carbon dioxide and not the other Kyoto gases, and for using a model normally employed for assessing only shortterm economic consequences. ENDS Daily (13 September 2002), ‘Transatlantic Climate Cost Dispute Rumbles On’, Issue 1286. 169 Interviews in Brussels, 15–16 May 2006. 170 Council (4 March 2002), 6592/02, 2413th Council Meeting Environment. Presse 47, 2002. Brussels.

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force before the Johannesburg World Summit in September 2002 – which, however, it did not. The Decision also included the 1998 Burden-sharing Agreement between the member-states aimed at joint reduction of 8 per cent of GHG emissions171 – to apply irrespective of whether or not the Kyoto Protocol entered into force. In legal terms, this means that the member-states’ obligations in the Burden-sharing Agreement were not conditional upon the entry into force of the Kyoto Protocol. Nevertheless, continuing uncertainty about ratification of the Kyoto Protocol after 2001 affected the EU ETS decision-making process. It meant that the Commission was initially extremely careful not to link the EU ETS inextricably to the Kyoto Protocol. In the Commission’s original Articles on the ET directive proposal, there was only one reference to the Kyoto Protocol – in Article 19 on registries (Vis 2006b, 200). Throughout the negotiations, the Commission was careful to avoid making the EU ETS conditional on the entry into force of the Protocol (ibid.). Nevertheless, Annex III to the ET Directive stipulated that National Allocation Plans should ‘be on a path towards meeting Kyoto targets’ in the first period (2005–07) and ‘consistent with the Kyoto targets’ in the second period (2008–12). Moreover, the link between the EU ETS and the Kyoto Protocol’s flexible mechanisms (CDM and JI) would not make much sense unless these mechanisms were part of the Protocol (see below). For the Protocol to enter into force it would, as noted, have to be ratified by 55 contracting Parties accounting for 55 per cent of total carbon dioxide emissions as of 1990. Since most other states took steps to ratify the Protocol in 2002 – nearly 100 countries, including Japan and Canada – the US exit from the Kyoto Protocol left Russia in a key role for determining the fate of the Kyoto Protocol. In April 2002, statements by Russian Prime Minister Kasyanov were interpreted by the EU as a promise of ratification (Moe, forthcoming 2007). This interpretation was based on the opinion that Russia stood to gain from the Kyoto Protocol, even without the USA as a major buyer. Russia could sell its ‘hot air’ (unused assigned amounts) to parties facing problems with meeting their targets. Russian ‘hot air’ was, as previously noted, caused by the economic slowdown and restructuring which led to rapidly falling CO2 emissions until the late 1990s. The EU conviction that Russia would ratify was important for keeping the final stage of the EU ETS decision-making process on track as the central element for complying with the Kyoto Protocol. Things did not go as smoothly as expected, however, and doubts about Russian ratification increased in 2003. In September, Vladimir Putin was expected to decide on ratification, but he failed to give a clear signal, saying only that the government would take a decision in conformity with Russian national interests after studying the economic and social impact of Kyoto.172 In December, the Protocol was again proclaimed ‘dead’, following statements by an economic advisor to Putin.173 European Commission President Romano Prodi stated ‘We are confident that Russia will ratify the Protocol so it can enter into force’, but this perception was not shared 171 Ibid. 172 ENDS Daily (29 September 2003), ‘Worries over Kyoto Mount as Russia Wavers’, Issue 1519. 173 ENDS Daily (3 December 2003), ‘New Russian Scare for Kyoto Protocol’, Issue 1566.

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by all member-states.174 Spain’s initial problems with implementing its National Allocation Plan have been directly related to uncertainty about Russian ratification. According to Vis (2006b, 210), the Aznar government did not appear to take the Kyoto commitments seriously enough, ‘perhaps in the belief that Russia would never ratify the Kyoto Protocol’. Russian ratification was in fact not as obvious as many in the EU appeared to think. According to Moe (forthcoming 2007), Russia hesitated for three main reasons. First, there was lack of scientific consensus on the climate issue within Russia. Second, there was disagreement on economic effects, particularly whether the Kyoto Protocol might stifle economic growth in the long term. Third, there was rivalry between state agencies for control over implementation of Russian climate policy, as well as competition between potential sellers of emission quotas and between recipients of investments in joint implementation projects. Finally, however, in September 2004 the Russian government proposed ratification to the Duma, and the assembly ratified the Protocol in October. Russia’s ratification can be explained by issue linkages: EU support for future Russian membership in the World Trade Organization had become linked to Russian ratification of the Kyoto Protocol (Slingenberg 2006, 21; Moe forthcoming 2007).175 The Kyoto Protocol entered into force on 16 February 2005, giving more weight to the ET Directive and the National Allocation Plans ‘on a path towards meeting Kyoto targets’. The Linking Directive Negotiations on the EU Linking Directive were also related to ratification of the Kyoto Protocol. One day before the launch of the linking proposal, Environment Commissioner Margot Wallström commented that she thought the proposal would be beneficial to ‘other countries, for example Russia’.176 This mention was far from a random remark, as Russia had the casting vote in determining whether the Protocol would be implemented. It was now up to the EU to convince Russia to ratify.177 The Linking Directive was clearly part of these attempts: As one EU commissioner commented, ‘the EU wants the Kyoto to enter into force, and this [linking] proposal gives an even bigger incentive for countries to ratify it’.178 Like the EU ETS, the Linking Directive also became a tool for getting the Kyoto Protocol ratified.

174 ENDS Daily (17 December 2003), ‘Prodi Tries to Hold the Line on Kyoto Protocol’, Issue 1576. 175 Although the EU has officially rejected the link between trade and climate, the two issues were discussed in parallel at an EU-Russia summit in May 2004 (Moe, forthcoming 2007). 176 ENDS Daily (24 July 2003), ‘EU Injects Kyoto Flex-mex into Climate Trading’, Issue 1488. 177 See for instance: ENDS Daily, ibid.; Point Carbon (23 July 2003), ‘Draft EU ETS Amendment on JI and CDM Published (European Commission)’; Reuters/Planetark (28 May 2003), ‘EU to Link Emissions Trading to the Rest of the World’. 178 Point Carbon (8 August 2003), ‘Linking Proposal Aims to Provide Companies with More Options’.

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Does this mean that Russia influenced the final content and the design of the Linking Directive? It could be argued that the Russians got their way in connection with the cap issue. At a roundtable discussion on air quality and climate change in Rome in March 2004, Russian participants had voiced their concern that the EU would cap the number of credits allowed into the EU ETS – and they had equally made it clear that without an expanded market for emission credits, Russia would not ratify the Kyoto Protocol.179 As we know, the final directive contained no common cap on JI and CDM credits. However, there are also reasons not to exaggerate the Russian influence. In the course of the directive process, reference to the entry into force of the Kyoto Protocol was specifically deleted,180 making the directive – at least formally – independent of Russia and the fate of the Protocol. As EP rapporteur Alexander de Roo commented, ‘this gives the message: We are not waiting for you, President Putin. We are going ahead with or without you’.181 Direct influence or not, the two processes were apparently interrelated. Only a month after agreement was reached on the Linking Directive (April 2004), Putin promised he would speed up work ‘towards ratification’.182 Similarly, one month after the Linking Directive entered into force, Russia ratified the Protocol. Conclusion To what extent, how and why did the relevant actors and institutions affect the final outcome of EU ETS? In this chapter, we have examined the influence of the EU member-states and institutions, as well as developments within the climate regime, on the EU ETS decision-making process. Our first proposition stated that the EU ETS came to reflect the positions of the member-states as a result of interstate bargaining. In Chapter 3, we saw that the EU ETS underwent relatively little change from the ET directive proposal in 2001 to its final adoption in 2003. This suggests that the positions of the member-states changed, that their interests had already been taken into account in the proposal from the Commission, or that they were simply unable to affect the proposal significantly during the decision-making process. First, the member-states did express diversified positions in response to the 2000 Green Paper. As noted in Chapter 4, initial responses indicated that nine member-states were positive to a European emissions trading system. This meant 47 votes for emissions trading – far from the 62 needed to create a qualified majority.

179 International Environment Reporter (10 March 2004), ‘Russia Insists It Will Only Ratify Kyoto Pact with Expanded Market for Emission Credits’, 27:5, 177. 180 Council (31 March 2004), Working Document 7931/04 regarding: Proposal for a Directive of the European Parliament and of the Council Amending the Directive Establishing a Scheme for Greenhouse Gas Emission Allowance Trading within the Community, in Respect of the Kyoto Protocol’s Project Mechanisms (Brussels: Council of the European Union, General Secretariat). 181 Point Carbon (20 April 2004), ‘Euro Parliament Adopts Linking Directive’. 182 ENDS Daily (24 May 2004), ‘Russia “Will Ratify the Kyoto Protocol”’.

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Against this backdrop, the Commission organized a new consultation meeting with the member-states in autumn 2001. This meeting revealed a significant change in positions, towards broad support for an EU ETS based on a common method for allocation, common sectors and activities, adequate compliance and enforcement. Allocation of allowances should, however, be done by the member-states within the constraints of the Burden-sharing Agreement. What caused this change? A combination of factors including better knowledge and the US exit from the Kyoto Protocol were important. Particularly the US exit helped to unify the EU in support for emissions trading (see below). This means that there was a development towards convergence in the positions of the EU member-states, but they nevertheless preferred a decentralized system for allocation of allowances that would maximize their national autonomy. Second, the Commission’s proposal was roughly in line with these positions, as were the common position and the final ET Directive. Decentralization of allocation of allowances provided the member-states with significant discretion and autonomy with regard to allocation within each country. Adding freedom with regard to verification, it has been argued that the ET Directive in reality means the establishment of 25 domestic emissions trading schemes (Lefevere 2006, 118). Key elements of the proposed ET directive thus reflected the diversity of the positions of the member-states. This helps us to understand why the proposed ET directive remained relatively unaltered throughout the decision-making process. With the Linking Directive, however, the situation was somewhat different. Here a majority of the member-states managed to change key elements of the Commission proposal related to a cap on linking, as well as the year from when linking was to take place. The linking directive proposal nevertheless adds support to the proposition based on the intergovernmental approach. Third, the design of the EU ETS did deviate significantly from the positions of two large and important member-states, Germany and the UK, who both preferred a voluntary scheme from the outset. Such a voluntary scheme would make participation optional, thus undermining the fundamental logic of the proposed emissions trading directive. Despite the significant political and economic importance of these two states, they had to yield and support a mandatory EU ETS in the pilot phase. The concessions given to Germany and the UK in the final directive were relatively insignificant and have proved to be of little importance in practice. The main observation from this is not that the EU ETS differed from the ‘lowest common denominator’ (which is common in the EU), but rather that it differed from the interests and preferences of two of the largest and most powerful EU states. In relation to this specific issuearea, the UK and Germany are the two most important contributors to the emissions trading scheme, with together, 34 per cent of the total allowances in the first trading period. This means that the EU governments do not necessarily have control over collective decision-making even if they represent the largest EU states, both in terms of votes and related to the issue-area in question here. The main reason why Germany and the UK had to yield was that the directive was proposed on the basis of Article 175 (1) of the EC Treaty, which provides for qualified majority voting in Council. There is, however, a norm in the Council of Ministers whereby consensus-seeking and unanimous support is always preferable.

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This norm was particularly applicable in this case since the EU ETS represented a new policy instrument that affected the core of modern economies: the energy sector. And the directive was actually adopted unanimously by the 15 member-states in the Council of Ministers in 2003. Even though formal voting did not take place, the possibility of voting nevertheless put pressure to bear on the UK and Germany to make concessions. Since a qualified majority supported the binding nature of the scheme, there was a real (although not very likely) risk that the UK and Germany could have been outvoted. It was real, since a blocking minority would require 26 votes – more than the UK and Germany combined, also if we count Finland with its three votes. Still, it was not very likely, since the UK and Germany were expected to account for a significant share of the allowance market, as later proved to be the case. In addition to qualified majority, the skill of the Danish EU Presidency in crafting the compromise, as well as internal rivalry within Germany, which weakened its negotiation position, help to explain the outcome. All in all, the EU ETS decisionmaking process appears to be largely, but not fully, in line with our proposition derived from the intergovernmental approach. The next proposition stated that the EU ETS reflects the harmonization ambition of the EU institutions, rather than the positions of the member-states. This proposition got only limited support. Both the European Commission (at least initially) and the European Parliament preferred a more centralized system, particularly with regard to the allocation of allowances. The EU ETS ended up as a basically decentralized system in this respect. Finally, the EU ETS deviated significantly from the position of the EP, but to a lesser degree from that of the Commission. However, both the European Commission and the Parliament influenced the EU ETS by providing independent input to the decision-making process, thus qualifying as organizational actors. The influence of the Commission was evident in that it was able to counterbalance many changes made to the proposed directive – on the basis of its formal powers according to the co-decision procedure, combined with several requirements and the right of approval in the subsequent implementation phase. For example, the Commission has a right to approve National Allocation Plans, as well as opt-in and opt-out provisions, and reject them if they do not comply with the requirements set out in the directive. The Commission was also very active behind the scenes in Council negotiations. This active role was facilitated by the asymmetrical distribution of knowledge between the Commission and most member-states: the Commission had more than a two-year lead in building up expertise on emissions trading. The European Parliament had the power to veto the proposed ET directive, but its actual influence on the directive was only moderate, compared its own ambitions. The Parliament aimed at making significant changes to the decentralized nature of the scheme, its coverage and method of allocation through two ‘readings’. Most the amendments aimed at strengthening the environmental integrity of the system. The final result included some modifications in that direction (see Table 5.4). For example, the EP proposed a mandatory cap on the allocation within each memberstate, to ensure that allocations were sufficiently ambitious to lead to significant reductions in emissions. The Parliament did not manage to get a mandatory cap, but

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ended up with a more flexible requirement: the total amount of allowances was to be consistent with a path towards the Kyoto targets. We have discussed various reasons for the limited impact of the EP. For one thing, on many issues the Parliament found itself confronted with a powerful alliance between the Commission and a majority of the member-states and industry. Second, the time factor became important. In the final negotiations, the Parliament was very reluctant to end up as the one who delayed the start-up of the scheme. If the scheme had gone into conciliation between the Council and Parliament, the Kyoto Protocol deadline of showing demonstrable progress ‘by 2005’ would probably be out of reach. Third, it seems that the Parliament proposed too many amendments (some 80 in the first reading). If the Parliament had focused on a more limited set of amendments, its impact might have been more significant. Non-state actors influenced the design of the EU ETS only to a very limited extent – hardly a surprising observation when decision-making is based on qualified majority. Qualified majority voting makes it difficult for industry and ENGOs to affect collective outcomes, as it requires lobby activities to be coordinated across member-states. Under unanimity rules, German industry would most likely have been able to exercise its influence by blocking the adoption of the directive. German industry did exercise some influence on the final directive in the form of the new Article on ‘pooling’ in the ET Directive. However, this derogation was of limited practical importance, and so German industry had scant influence on the design of the EU ETS through the national channel. At EU level, however, both industry and ENGOs expressed overwhelming support for the EU Emissions Trading Scheme, even though differences in opinion persisted on specific design elements. That being said, this case also provides us with examples of different types of relationships between the EU institutions and non-state actors. First, the Commission was initially able to withstand pressure from powerful industries to include ‘opt-out’ in the proposed directive. A necessary condition for this was that DG Environment could ally with the DGs for competition and the internal market. Faced with this constellation, the industry-friendly DG Enterprise had to give in. Second, neither the European Commission nor the Parliament was able to withstand the opposition expressed by the chemical industry, represented by the European industrial federation CEFIC. The chemical industry had been included in the Green Paper, but it was excluded from the proposal for the ET directive, and managed to stay outside despite the efforts of the Parliament to get it back in. In addition to its international orientation and importance to the EU economy, the chemical industry was probably left out of the ETS because its cooperation was needed in the upcoming process on the REACH directive, and because excluding the chemical industry would help to weaken German opposition to emissions trading. Moreover, the chemical industry would have complicated the system because it covers many installations. Third, ENGOs did apparently have some influence, through the Parliament’s efforts to open up for some auctioning. According to our final proposition, the EU Emissions Trading Scheme reflects developments within international climate regime and its provision for international emissions trading. The main impact of the international climate regime on the EU ETS in the decision-making phase was caused by the US withdrawal from the Kyoto

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Protocol. This led to a crisis in the regime that penetrated the internal EU decisionmaking process. The US exit first served to unify the positions within and among the EU actors and institutions in climate policy. This meant that it helped to unify the Commission, the positions of the EU member-states, the Parliament and non-state actors in support for the EU ETS. Convergence in positions among key stakeholders was also stimulated by the heightened likelihood that the Kyoto Protocol would enter into force, following the Bonn and Marrakech agreements in the summer and autumn of 2001. The EU ETS came into the spotlight as the instrument that would give the EU credibility in saving the Kyoto Protocol. The Linking Directive became increasingly important as uncertainty about Russian ratification of the Kyoto Protocol persisted much longer than expected. These effects were mutually reinforcing – the EU ETS represented the main instrument for implementing and increasingly for saving the Kyoto Protocol. If the US exit from the Kyoto Protocol had led to a collapse in the climate regime (as foreseen by the Bush Administration), perhaps the EU ETS would not have been adopted – at least not at the same time and in the same form as it did. The Kyoto Protocol continued to affect the speed of the EU ETS decision-making process, through its ‘demonstrable progress by 2005’ time limit and the 2008–12 commitment period. These time limits placed pressure on EU actors and institutions, particularly the European Parliament, to avoid conciliation. All in all, the Kyoto Protocol and developments within the climate regime emerge as probably the most important factor in explaining why the EU ETS was adopted at all. Even though the EU was convinced that the Kyoto Protocol would enter into force, the international climate regime had limited impact on the specific design of the EU ETS, mainly because the rules for international emissions trading were developed later and they were more general. The EU ETS was significantly more complex, as it focused on industrial action, not governmental action. Despite their varying explanatory power, all the three explanatory perspectives offered here prove to have something to contribute, even related to the same design feature. For example, the intergovernmental member-state perspective helps us to understand why the ETS is based on decentralized allocation of allowances. The EU institutional perspective helps us to understand why the allocation of allowances must be approved by the Commission and must follow certain guidelines, including being on a path toward achieving the Kyoto targets. The international regime perspective helps us to understand why the EU ETS suddenly gained significantly more support in 2001, why the ET Directive did not go into conciliation between the Council and the Parliament – and why it was adopted at all.

Chapter 6

Implementing EU Emissions Trading In this chapter, we look into the similarities and differences in implementation that were found in Chapter 3. In Chapter 2, we formulated various propositions on implementation based on our three explanatory perspectives. The first explanatory perspective views implementation from the level of the member-states, focusing on how domestic factors can explain variance in implementation. The first proposition thus took as its point of departure a decentralized EU ETS, and stated that it would lead to low but varying levels of environmental ambitiousness, due to national circumstances. A decentralized ETS would mean that each member-state was in charge of the cap-setting process, easily implying a ‘race to the bottom’. The second explanatory perspective views implementation from the EU level, with a centralized and harmonized EU ETS as its point of departure. It suggested that a centralized EU ETS would lead to generally high(er) environmental ambitiousness due to common EU criteria. This would provide the Commission and the ECJ with significant powers to oversee the implementation process and hence induce ambitious allocations. The final perspective views implementation from the international level. Here it is proposed that a strong link between the EU ETS and the climate regime’s flexible mechanisms, as well as low exposure to international competition, would increase environmental ambitiousness. This because the availability of relatively low-price CDM credits would make it easier for industries to agree to ambitious allocations (although also decreasing the pressure on EU governments to take real action in their own countries). Furthermore, low exposure to international competition would reduce industrial opposition to ambitious allocations. Member-states: Varying Implementation As the EU ETS turned out to be basically decentralized, we expected low but varying degrees of implementation. Our assessment in Chapter 3 was largely in line with this expectation. We put forward a generally sobering assessment of implementation and ambition levels so far. It is also clear that the implementation process has been marked by significant delays in the delivery of NAPs. However, within this overall picture of only moderate success, there were striking differences in implementation. We singled out a group of four key EU countries and emitters, representing variation in implementation and geographical location: frontrunner UK, reluctant Germany, improving-laggard Spain and laggard Poland. Significant variation in domestic implementation points towards different national circumstances and domestic-level explanations. Here we focus on ‘fit’,

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‘need’ and ‘deed’ to explain variance in implementation. Institutional fit emphasizes the critical role of the pre-existing institutional context in which new policy instruments (like emissions trading) are introduced. Institutional change rarely takes place in a smooth and unproblematic way, due to existing institutions. According to Knill and Lenschow (2000, 30), ‘effective implementation is basically dependent on the degree of institutional fit between existing institutional arrangements and the institutional implications emerging from European policies. Implementation is likely to be ineffective if the institutional implications of EU policies contradict strongly entrenched patterns of already existing institutions’. We distinguish between general institutional fit and policy fit. In this study, general fit concerns the match between the portfolio of domestic climate policy instruments and emissions trading. In a broader sense, it also includes general national regulatory styles. Specific policy fit concerns the match between specific policy instruments (like domestic emissions trading) and the EU ETS. We are interested in both these dimensions and will seek to bring out the specific type of fit or misfit in each of the four national cases studied. The second explanatory factor in focus is ‘need’ for the EU ETS. As noted in Chapter 1, all EU countries have varying targets agreed to within the EU’s Burdensharing Agreement (BSA), and progress so far in relation to these targets varies. In order to measure need, we will sum up the country’s target within the BSA, progress made in relation to this target so far and main prospects ahead, and on this basis assess the real need to implement the ETS ambitiously. Finally, we distinguish needs from deeds. The need to do something and the political willingness to do so may well be two different things. We will thus assess progress in climate policy and the basic ‘drive’ in each of the four countries in focus, and hence the apparent and probable willingness to match needs with climate policy deeds. Climate policy ‘drive’ is measured in terms of domestic targets and policy instruments. We expect that high institutional fit, need for the EU ETS, and climate policy ‘drive’ will lead to a frontrunner position, and, conversely, that low fit, need and drive will lead to a laggard position. The UK: Frontrunner As concluded in Chapter 3, when NAP I and II are viewed in combination, the UK stands out as the main forerunner in EU ETS implementation. It has managed to meet the deadlines quite well and was among the comparatively more ambitious in NAP I, even though it fought a drawn-out battle with the Commission over its wish to increase its cap a little bit (as further discussed later). In NAP II, the UK’s plan was the only one to be unconditionally accepted in the first Commission NAP II ‘verdict’. When the verified 2005 emissions figures were put on the table in May 2006, it became clear that the UK was one of the few countries on the short side – that is, with higher emissions than allowances distributed. On the one hand, this means that the UK certainly did not ‘over-allocate’, and that must be counted on the positive side. On the other hand, higher emissions go in the wrong direction for a system aiming for reductions.

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However, the interpretation of such figures depends upon the background for the higher emissions. As noted in Chapter 3, one reason that has been indicated for the UK’s ‘short’ position in 2005 is a shift to greater use of coal for power generation as gas prices have risen while coal prices have been static or falling. Not least because the UK’s NAP II was the only one to gain unconditional acceptance in the first Commission NAP II assessment round, the EU Commission seemingly supports a ‘basically sound approach’ interpretation of recent events. Let us then see to what extent our three explanatory perspectives can shed light upon this comparatively high implementation performance. Fit between UK ETS and EU ETS In the EU ETS initiation process, the UK was a clear proponent of trading. It was apparently the only EU country positive to emissions trading during the Kyoto negotiations, and was the second EU country (after Denmark) to implement a domestic ETS. Britain’s domestic emissions trading scheme created a certain institutional learning base with regard to the operation of trading, within both government and industry. This included basic data collection, the establishment and operation of allowance registries, recognition of the pros and cons of allocation methods, and, of course, a certain trading experience for industry. In 2004, both the National Audit Office (NAO) and the ENDS Report agreed that the creation of the allowance registry was an important ‘but often over-looked’ institutional success.1 Moreover, a clear majority of participants in the UK ETS emphasized how participation in the system had improved their collection of data on energy use and measurement of emissions (NAO 2004, 27). The general institutional fit between British climate policy and the EU ETS was thus high. In Chapter 5, we saw that the UK ended up as one of the main opponents to a mandatory ETS. The reason was that the design of the UK’s initial domestic trading scheme, which started in March 2002, differed substantially from that of the EU ETS, and this created tension between the EU and UK. Britain’s domestic system covered all six main greenhouses gases (EU: only CO2); it excluded electricity and heat generators, but included several sectors not covered by the EU ETS. The scheme was voluntary (EU: mandatory), and the British government provided funding support of 43 million pounds per year over a five-year period to encourage participation (EU: none).2 The industrial target groups were instrumental in designing the scheme – indicating that the UK domestic scheme was more in accordance with their strategies than the EU ETS. Indeed, some of the patterns of interests created by 1 NAO 2004; ENDS Report (April 2004), ‘Watchdog Fails to Bite on UK Emissions Trading Scheme’, Issue 351, 27–30. 2 In the UK ETS, 31 organizations (‘direct participants’) took on targets to reduce their emissions against 1998–2000 levels, aiming to deliver close to 12 million tonnes of additional CO2 equivalent emission reductions over the period 2002–06. The scheme was also open to the 6,000 companies with Climate Change Agreements , the latter setting energyrelated targets. Companies that met their targets would receive an 80 per cent discount from the Climate Change Levy, a tax on the business use of energy. These companies could use the scheme either to buy allowances to meet their targets, or to sell any over-achievement. UK Department for Environment, Food and Rural Affairs [website], , accessed 18 June 2007.

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the scheme were clearly in conflict with the EU ETS. Moreover, due to differences in coverage, the two schemes engaged and distributed regulatory burdens among emitters differently (see also Sorrell 2003a and 2003b). Nevertheless, the UK trading experiences facilitated the country’s NAP I implementation in terms of timeliness. This was also confirmed in our interviews with British NAP decision-makers.3 It was probably also a factor positive for ambitiousness, as the previous work provided some necessary data and modelling tools. In sum, although the general institutional fit was good, the specific policy fit was more ‘medium’, due to design differences between Britain’s ETS and the emerging EU ETS. Reduction needs and climate policy drive The UK has one of the most ambitious targets within the EU BSA. The UK’s target is to reduce GHG emissions by 12.5 per cent by 2008–12. An even more ambitious domestic target of a 20 per cent reduction in CO2 emissions by the year 2010 had been adopted back in 1997. In 1998, UK CO2 emissions were already 8.5 per cent below 1990 levels. According to the European Environmental Agency (EEA) 2004 progress report, emission trends until 2002, and projections for 2010 on the basis of existing domestic policies and measures, the UK appeared on track in terms of meeting its BSA target. With regard to the more specific linear target-path towards the BSA 2010 target, in 2006 the UK was 7 percentage points below (ibid., 14).4 The UK was the only EU country besides Sweden to project that existing domestic policies and measures would alone be sufficient to meet and even exceed its BSA target. This picture remained basically unchanged in the 2006 EEA report, with the UK 5.8 percentage points below the linear path (EEA 2006, 20). This indicates that the actual need for the UK to implement the ETS ambitiously was not pressing. As to the more structural factors underlying these figures, energy liberalization and the ‘dash-to-gas’ can shed light on Britain’s decreasing emissions in the 1990s (Collier 1997; Wettestad and Hals Butenschøn 2000). But also other factors and policies have come to complement and enhance the ‘dash-to-gas’ effects. As shown by Darkin (2006), the British Labour Party has actively promoted climate policy since coming to power in 1997, including the adoption of a comprehensive Climate Change Programme in 2000. And policies and measures in the industrial sector have been delivering real reductions in emissions. On the other hand – and as in most countries – the transport and households sectors are lagging behind. Furthermore, although energy efficiency has improved in the UK, rising energy demand has more than outweighed the efficiency gains (ibid., 266), and this development may also shed some light on the power sector’s overshooting of its ET allowances in 2005. We can draw two, somewhat differing, conclusions. On the one hand, good progress indicates that there has simply not been such a real need for the British government to implement the ETS very ambitiously, so this element does not shed much light on why the UK was the comparative leader. On the other hand, good 3 UK interviews, 16 February 2005. 4 The only other countries with ‘scores’ below the linear target path were Germany, Sweden, France, Luxembourg and Belgium (EEA 2004, 14).

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progress was at least partly a result of an active climate policy. Policy drive emerges as a more important explanatory factor than the need to implement the EU ETS for understanding the UK frontrunner position. Germany: Reluctant Germany is of key ET importance and interest as the biggest EU emitter, accounting for almost 25 per cent of total ET allowances. Moreover, it was the EU country with the strongest objections to the ETS design proposed by the Commission. With regard to implementation, Germany must be placed somewhere in the middle, as a sort of key Northern intermediate. It has generally been on time, and ranks somewhere in the middle with regard to comparative NAP I ambitiousness. Germany ended up with slightly lower emissions in 2005 than allocated cap (around 4.2 per cent) and hence as a potential slight ‘over-allocator’ in NAP I. Furthermore, its proposed NAP II cap was rejected and considerably adjusted down by the Commission. As further discussed later, in NAP I, it had a long quarrel with the Commission over its suggested ‘ex post’ adjustment rules, and there was talk about a new fight with the Commission over its scaled-down cap in NAP II. However, Germany chose to back down, but accompanied this with a planned increased use of CDM. On the whole, it should be seen as a reluctant and cautious ETS player. Voluntary agreements and the EU ETS Compared to the UK, Germany seems to be a clear case of both more general institutional misfit and more specific policy misfit in terms of emissions trading. As noted in Chapters 4 and 5, in the negotiations leading up to the Kyoto Protocol, Germany was one of the leading sceptics within the EU to flexible mechanisms, and it argued for a voluntary EU system until the end of 2002. The most intensive German lobbying towards the EU involved a proposal for allowing companies to form collective ‘pools’. This pooling proposal reflected the fact that the main instrument in German climate policy has been voluntary agreements (VAs) with industry.5 The targets in the agreements have referred entirely to associations, not individual companies or sites. Agreements on CO2 reductions were adopted in 1995, 1996, 2000 and 2002. As pointed out in a report from FraunhoferISI (Walz and Betz 2003), the pre-2000 agreements were unilateral commitments on the part of industry, adding up to an overall target of cutting CO2 emissions by up to 20 per cent by 2005 compared to 1987 levels. Since 2000, negotiated agreements have been established on a sectoral basis. The agreements covered the companies associated in the Bundesverband Deutscher Industrie (BDI), which is the head organization of the German manufacturing industry, electricity producers, as well as coal, gas and oil suppliers. About 80 per cent of final energy consumption in industry, and almost all electricity supply (industrial and utilities, private and public producers) were covered by the agreements. These applied to 18 associations/sectors, including chemicals, non-ferrous metal industry, 5 Other important German climate policy instruments have been the ecological tax reform and the Renewables Energy Sources Act. See Walz and Betz (2003).

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steel, oil refining, gas and water utilities, and electricity suppliers. The overall 2012 target was a 35 per cent greenhouse gas cut (ibid., 13).6 However, the substance of the commitments was diffuse, and reporting of emissions under the agreements was voluntary.7 Within the German government, the Ministry of Economy was responsible for the agreements. The dominant role of these agreements in German climate policy indicated a potential misfit in relation to the emerging EU ETS. With the voluntary agreements, the balance of power between industry and government was tilted in favour of industry, which controlled the reporting of data. These data were primarily at the aggregate, sectoral level; targets were open to interpretation; and no sanctioning mechanism was involved.8 All this stands in contrast to the EU ETS, which is a mandatory system with an elaborate data collection and monitoring system reaching down to the individual corporation level, and with a clear and explicit sanctioning and non-compliance mechanism. Most German industry was generally quite satisfied with the regulatory regime based on VAs, and embraced emissions trading only very reluctantly and hesitantly. In September 2005 it was reported that more than two-thirds of German installations still had a negative attitude to emissions trading.9 In essence, German industry anticipated higher abatement costs under the EU ETS than with the voluntary agreements. The picture is not entirely bleak, however. Closer examination of the negotiations on the German NAP I cap between mid-2003 and March 2004 shows that the voluntary agreements came to represent one of four main focal points in the complicated and contentious process of determining the total emissions cap (Matthes and Schafhausen forthcoming 2007; Mullins 2005, 188).10 In this specific process, the VAs functioned constructively. More generally, the skewedness in the balance of power between industry and government represented may have served as a driver within the environmental agencies for effective implementation of the EU ETS, since this instrument would provide the regulators with more power vis-à-vis the regulated. Compared to the case of the UK, both a general and a specific misfit seem to explain why Germany has lagged somewhat behind.

6 This target was mainly a relative one, set in relation to a production index. See Walz and Betz (2003, 139). 7 Interviews, Berlin 28–29 September 2005. 8 According to Matthes and Schafhausen (2005, 38), this means that Germany’s NAP process has been complicated by ‘a poor data situation and very incomplete information’. 9 Point Carbon (22 February 22, 2005), ‘Polish NAP Under Pressure’. 10 The VA focal point was favoured by the German Ministry of the Environment (BMU). The other three focal points were a ‘proportional’ approach, a ‘non-ET stabilization’ approach and a ‘cost-efficiency’ approach. See Matthes and Schafhausen (2005, 12–13). Interviews in Berlin, 28–29 September 2005.

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Climate policy progress: good, but slowing down? Compared again to the UK, we would also expect that either the need for ambitious allocation was lower in Germany than in the UK, or that the German policy drive was less vigorous – or both. Germany has traditionally been a leader in climate policy within the EU and would probably like to uphold this position, also in the age of emissions trading. The German BSA target is a 21 per cent reduction by 2008–12, the second most ambitious one within the EU (together with Denmark). Somewhat similar to the UK, according to the EEA (2006), emission trends until 2004 and projections for 2010 indicate that the Germany has managed to stay basically on track to meet its BSA target by using additional domestic policies and measures. As noted in Chapter 4, the development of GHG emissions in Germany is related to the fall of the Berlin Wall and subsequent re-unification effects. The rate of emissions decrease was highest in the early 1990s. After that came a consistent, but slower, decline in emissions throughout the 1990s, and emissions became quite constant after 1999 (Walz and Betz 2003, 2; Matthes and Schafhausen 2005, 1). As to the more specific linear path towards the BSA 2010 target, in 2004 Germany was 2.8 percentage points below (ibid., 20). On the one hand, there seems to be no pressing need for drastic measures. This is quite similar to the situation in the UK and can hence shed little light on the comparatively lower ambitiousness of Germany. On the other hand, we should note that progress was less encouraging in 2006 than it was in 2004, although an increase in emissions may be caused various different factors.11 This immediate impression of a decreasing climate policy drive in the recent years is strengthened by recent statements by German officials. In April 2007, Germany’s environment minister Sigmar Gabriel stated that it was ‘disappointing that Germany had fallen away from that [the 21 per cent] target in recent years’, adding that ‘Germany, and other countries, issued more certificates than necessary’.12 This may indicate that in recent years the basic climate policy drive may have been less strong in Germany than in the UK. Hence, Germany’s willingness to implement the ETS ambitiously may have been comparatively lower. Spain: an Improving Laggard As concluded in Chapter 3, Spain occupies a sort of intermediate position in terms of ETS performance so far. Spain was initially very delayed in NAP I, but speeded up significantly from late spring 2005 on and ended up with a comparatively acceptable NAP. When 2005 emissions were put on the table, Spain proved to be among the few countries that had not handed out more allowances than the ETS industries needed and hence was on the ‘under-allocation’ side, further supporting the impression of a certain NAP I soberness. Spain’s NAP II has been favourably received and

11 Here it should be noted that in the 2004 EEA assessment Germany was 6 percentage points below the linear target path (EEA 2004, 14). 12 Reuters/Planetark (19 April 2007), ‘German Cabinet Accepts EU’s CO2 Allocation Plan’.

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– as was the case with only a few countries – its cap was basically accepted by the Commission at the first attempt. Lack of climate policy rather than misfit Economic instruments have not figured centrally in Spanish environmental policy, so general institutional fit must be characterized as being on the low side.13 With regard to more specific policy fit, the case seems to be more a lack of previous policy and general policy foundation than a specific mismatch. In 2003, Tabara (2003, 20) noted: ‘for a long time, Spanish politics have framed climate change either as a non-issue or as a burden for economic growth and competitiveness, and as a result still suffers from such passivity and inertia which are now very difficult to overcome’. Spain has not had an overarching climate change strategy. Domestic policies to mitigate climate change have focused on the introduction of combined-cycle gas turbine plants to cover additional energy demand, a reduction of energy intensity, and an increase in renewable energy policies (International Energy Agency 2005). In an environmental performance review from 2004, the OECD pointed out that climate change has not been among the top environmental issues in Spain; priority has traditionally gone to water quality. This can help to explain why Spain seems to have accorded low priority to the negotiations on the ETS directive from 2001 to 2003.14 Thus, in the case of Spain, not only has general fit been low, a specific policy foundation for the ETS has also been lacking. Needs and climate policy progress: from inertia to action In 2004, with the EU’s NAP I deadline getting closer, a public debate developed in Spain, questioning the fairness of the country’s target under the BSA.15 Under that agreement, Spain, like several other southern EU states, is allowed to increase its greenhouse gas emissions, but Spain’s target of a 15 per cent emissions increase has been characterized as somewhat stricter than other southern targets and national policy at the time (Ringius 1999). By 2000, Spanish emissions had risen far more than the target (29 per cent above 1990 level); by 2004, emissions were almost 45 per cent higher than 1990 levels. Furthermore, as pointed out in the 2004 EEA assessment, Spain was 30 percentage points above a linear Kyoto target path (EEA 2004, 14). According to the 2006 EEA assessment, the situation has remained basically the same (EEA 2006, 20). No wonder then that Spain has been included in a group of seven countries singled out by the European Commission as being at risk of not meeting their BSA targets.16 In sum, we must conclude that there has been a considerable need to squeeze also the industries covered by the EU ETS. However, for quite a long period, Madrid failed

13 For instance, the OECD recommended to increasing the use of economic instruments in its 2004 Environmental Performance Review (OECD 2004, 17). 14 Interviews in Madrid, 9–10 May 2005. 15 ENDS Daily (28 January 2004), ‘Spain Wobbles on Kyoto Protocol Commitments’, Issue 1597. 16 The six others are Austria, Belgium, Denmark, Ireland, Italy and Portugal. ENDS Report (December 2006), ‘Prospects for EU Emissions Worsen’, 3.

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to act on this need. This was much rooted in fundamental scepticism to climate politics and the Kyoto Protocol within Spain’s ruling conservative government.17 It was only with the new socialist government in April 2004 that the Spanish implementation process started to follow a completely different track. The new Prime Minister early on pledged to comply with the ET Directive whatever the cost, and was followed by the new Minister of the Environment harshly criticizing the outgoing government for not following up on the Kyoto commitments. A contribution to relaxing the opposition towards emissions trading in the business community came with the appointment of a former representative of industry (from the company Repsol) to Director of the Spanish Climate Office.18 This new speed and political pressure in the implementation process resulted in a draft Spanish NAP I being published at the end of June 2004, considerably earlier than expected.19 And, as noted, the new drive in Spanish climate policy led to a NAP II that was applauded and approved by the Commission at first try in late February 2007. From the Spanish case we see how a change in climate policy drive came about due to a change in government, which in turn responded to the accumulated pressing need for action. Poland: Struggling It is hard to escape the conclusion that Poland must be counted as figuring centrally among the ETS implementation laggards so far. Poland is the third largest emitter in the EU and accounts for around 11 per cent of the allowances. Hence, its timeliness and performance is important for the developing market. It was seriously delayed in NAP I, and its cap indicated comparatively little ambition. When 2005 figures were put on the table, Poland proved to be among countries that had been most generous in handing out allowances to the ET industry (emerging as a clear ‘over-allocator’). Although the country was on time in NAP II, its ambitiousness has again been seriously questioned. This was confirmed in late March 2007, when the Commission cut Poland’s suggested NAP II by as much as 27 per cent (down from 284.6 million allowances to 208.5). Lack of institutional fit A look at the history of environmental regulation in the Central and East European Countries (CEECs) shows that, prior to 1990, the overall regulatory style focused on national quality standards and pollution permits. In the 1990s, however, virtually all new environmental policy principles were imported from the West, and the CEECs have shown a general preference for new policy instruments like market-based instruments and self-regulation (Jehlicka and Tickle 2002, 2004). However, as we have discussed in greater detail elsewhere (Skjærseth and Wettestad 2007), the general institutional capacity for effective environmental policy development and implementation in the CEECs has been characterized as weak. Ministries of the environment and their departments 17 Interviews in Madrid, 9–10 May 2005. 18 Interviews in Madrid, 9–10 May 2005. 19 ENDS Daily (10 June 2004), ‘EU Urged to Take Hard Line on Emissions Plans’, Issue 1684.

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of EU integration are understaffed and without appropriately trained experts. Environmental ministries often perform merely a coordinating and consultative role and lack the administrative capacity to implement and enforce environmental regulation (Homeyer 2001; Kramer 2002). Thus, in terms of general institutional fit, including the capacity to implement so complex an instrument as the EU ETS, the picture was not encouraging. Poland has been described as a country with mixed attitudes towards emissions trading (Fernandez Armenteros and Massai 2005, 440–442). However, climate change did not constitute a major priority with the Ministry of the Environment, and there has been resistance from politicians and decision-makers ‘which still prefer other instruments already established and which present faster and more visible positive results on the national environment than a new system where there is not yet sufficient experience’ (ibid., 441). Polish climate policy consists of various national policy plans emphasizing various measures, including renewable energy. Several new legal acts with relevance for climate policy have been adopted since 1997. For example, the 1997 Energy Act aims to stimulate the use of renewable energy sources. However, according to Warzaw Press, ‘the government is coming to the issue too late, with no time, no funding, and almost no data’.20 In sum, in addition to weak administrative capacity, the general fit between emissions trading and Polish climate policy must be characterized as low. So what about the actual need for effective implementation stemming from Kyoto commitments? Climate policy progress: comfortably numbing? As with other CEECs, Poland is a party both to the UNFCCC and to the Kyoto Protocol, with status as ‘Economies in Transition’ (EITs). They are not part of the EU’s Burden-sharing Agreement, which applies only to the ‘old’ EU-15. From late 2002 on and with formal accession approaching, the CEECs were granted more access to EU decision-making, including climate policy, through the establishment of the ‘Interim Committee’.21 The process of gradually closer involvement was further strengthened by the important European Council meeting in April 2003 and the signing of the Accession Treaties. The CEECs were included as observers in the final stages of negotiations on the EU ET Directive, including both the second reading in the European Parliament and the final deliberations in the Council.22 The CEECs took a more active part in the negotiations on the Linking Directive all along. 20 Warzaw Press (1 March 2004). 21 This Committee, established to allow the CEECs to comment on EU draft legislation concerning the signature of the Accession Treaties, was composed of representatives of the EU, the EU Commission, the Czech Republic, Cyprus, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia and Slovenia. See Fernandez Armenteros and Massai (2005, 432). 22 For instance, Dr Tibor Farago, Director-General of the Hungarian Ministry of the Environment, stated: ‘we have followed the negotiations on the [ETS] Directive very closely, and have also expressed our concern on the linking proposal…At the moment we are waiting for the Commission’s guidelines on the NAP’. Point Carbon (22 August 2003), ‘Hungary: Late Bloomer by Intent’, Point Carbon Carbon Market Europe, 1.

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All CEECs have ratified the Kyoto Protocol, which commits them to emissions limitations as Annex B Parties. Poland has a 6 per cent reduction target. However, given the economic and industrial restructuring processes underway in the CEECs in the post-Communist 1990s, their Kyoto targets are generally expected to be quite generous. Moreover, this development has been expected to set them up as sellers of allowances in the ETS. As expected, progress in 2002 was fairly good. The 2004 EEA assessment noted that Poland was 29 percentage points below a linear Kyoto target path (EEA 2004, 17). According to the 2006 EEA assessment, recent progress has been only marginally less promising (two percentage points ‘down’) (EEA 2006, 23). According to Point Carbon, this development led representatives of the Polish Ministry of the Environment to state in February 2005 that Poland had already met its Kyoto commitments and that was why ‘it doesn’t really have to take part in EU ETS’.23 Furthermore, since many other Kyoto signatories seemed set to overshoot their targets, the progress made in Poland led many to expect a reward when allowances were allocated. A windfall for industry was foreseen in allowance sales.24 However, the 2006 EEA report also contained a warning signal, as by 2010, CEEC greenhouse gas emissions are expected to increase by 11 percentage points (EEA 2006, 24). This warning signal has clearly been picked up by industry. For instance, in spring 2005, when the Commission demanded a significant cut of the proposed Polish cap, this created an uproar in several sectors of Polish industry – including cement, steel and power. Such a cut ‘could hinder the growth of the Polish economy’.25 This concern on the part of trade union and industry about the need for future allowances related to a fast-growing economy was shared by the Polish government, which in March 2005 stated that it was careful not to create ‘artificial barriers to further economic growth’.26 The case of Poland was further complicated by a change of government and environment minister in spring 2005. This led to further delays in the Polish ETS implementation process, and the late entry of Polish companies impeded market maturity. In sum, there was little need for Poland to implement the ETS ambitiously, and economic growth prospects meant also low willingness to do so. Comparative Patterns Table 6.1 shows that expectations have been roughly in line with actual implementation patterns. This indicates that our three explanatory factors have been able to explain differences in implementation reasonably well.

23 Point Carbon (22 February 2005), ‘Polish NAP Under Pressure’. 24 EU Energy (22 April 2005), ‘Little Hope for CO2 Allowance Deal between Poland, EC’, Issue 106, 14–15. 25 EU Energy (25 March 2005), ‘Government, Industry “Disappointed” by EU NAP Decision’, Issue 104, 18. 26 Reuters/Planetark (10 March 2005), ‘Poland Weighing Legal Options on EU Emissions’.

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Table 6.1

Implementation of the EU ETS: Expected vs. actual outcome (in relative terms) Fit

Need

Deed/drive

UK

M/H

L/M

H

Germany Spain

L/M L

L/M H

H/M L/M (C)

Poland

L

L

L

Expected outcome Intermediate/ Frontrunner Intermediate Laggard/ Intermediate Laggard

Actual outcome Frontrunner Intermediate Laggard/ Intermediate (C) Laggard

C=Change

Together with Germany, the UK was the EU country that expressed the most vehement opposition to the Commission’s suggested ETS design. This was clearly related to domestic climate policy design and a wish to improve the more specific policy fit between domestic and EU design. In contrast to Germany, emissions trading figured prominently in the British policy mix, so there was more of a slight policy misfit than a more general and serious institutional misfit. The underlying attitude towards emissions trading was basically positive and valuable lessons were being learnt. These domestic experiences also helped in the process of modelling and producing emission caps, applauded in both NAP I and II. However, this must primarily be seen as the result of good bureaucratic footwork, within a political context where some actual weight was given to climate policy. There was governmental willingness to squeeze industry (particularly the power sector), but overall good climate policy progress meant that there was no real need to squeeze the industry covered by the EU ETS very hard. Germany was in many ways the main opponent to the European Commission in the development of the EU ETS. Hence Germany’s rather quarrelsome performance in the implementation process can stand as a prime illustration of the importance of seeing decision-making and implementation in combination. It is also clear that problematic institutional fit due to reliance on voluntary agreements can help to explain both Germany’s opposition in the decision-making phase and its reluctant implementation performance. On the other hand, a closer look reveals that the voluntary agreements have not only complicated things: they also provided helpful focal points in the messy first allocation round. Although Germany’s comparatively ambitious burden-sharing target leaves no room for complacency, adequate climate policy progress has meant that the actual need to squeeze German industry covered by the ETS very hard has simply not been present, thus far. However, there are signs that Germany’s climate policy drive has been getting weaker in recent years. Furthermore, scattered evidence about the generally critical and hesitant role of industry, which relinquished the voluntary agreements with regret, further supports our placing Germany, at best, in the intermediate category with regard to ETS performance to date.

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Spain is interesting because it displays change in implementation over time. The need for an ambitious EU ETS performance was extremely high for Spain to reach its goal according to the BSA. But it took a new government in spring of 2004 to act upon this need. Hence, a combination of high need and change in climate policy drive is the key to understanding the case of Spain. In the case of Poland, institutional and policy fit was low. In addition, postCommunism restructuring effects, in terms of markedly reduced emissions, meant that the country did not have any need for the EU ETS. Finally, the country’s economic growth prospects meant little interest in an active climate policy. The EU Dimension Although the EU ETS became basically decentralized, the allocation of allowances was not unconstrained. As noted in Chapter 3, Annex III of the ET Directive contained several optional and mandatory criteria that member-states had to respect. One of the most important criteria was the need to be on a path towards the Kyoto target in the period 2005–07 and consistent with Kyoto targets in the period 2008–12. This provision resulted largely from the European Parliament’s efforts to centralize the system towards setting the cap on the total quantity of allowances at EU level. The European Commission has the authority to approve and consequently reject National Allocation Plans (NAPs) which, in its view, do not comply with the relevant provisions. This means that our second proposition on the consequences of a centralized system is still worth exploring, since the EU ETS included elements aimed at harmonizing NAPs. More specifically, we proposed that such elements would pull in the direction of greater environmental ambitiousness. By contrast, a decentralized system would be likely to lead to a ‘race to the bottom’, as each member-state would have incentives to protect its own industries by providing them with generous allocations of allowances. To shed further light on this common moderation, we need a closer look at some shared factors, the first of these being located at the EU level. A ‘race to the bottom’? Like most other EU policy-making and implementation, the EU ETS entails a dimension of economic competition between the EU states which cannot be fully grasped by examining the countries individually. An implementation process that involves both high initial uncertainty and high speed may make this competitive dimension even more pertinent, as countries will have little time to check on what others are doing. Combined with a low degree of harmonization, this will facilitate a ‘race to the bottom’. After all, no state wants to end up as the one left ‘holding the bag’, with industry at a disadvantage compared to the competitions. The EU ETS NAP I process is a good illustration of such dynamics. As stressed by Vis (2006b, 187), relevant data were initially in short supply. Furthermore, as Vis notes, the underlying competitive challenge can be seen in the treatment of new entrants, where ‘... fear that [treating] new entrants any less favourably than neighbouring

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Member States would mean that new investment would tend to go to Member States where allocation was for free’ (ibid., 196). The high policy-making speed and time pressure originated in Brussels and the generally tight ETS schedule set by the Commission (see, for example, Pew Center 2005, 9). The tight schedule must also be understood in light of the fact that, although there had been some previous experiences with domestic emissions trading, this instrument was quite new to all concerned. A closer look at some of the countries in focus here confirms that the tight schedule had unfortunate domestic effects. Even in the comparatively well-prepared UK, time constraints and the impossibility of consulting with other member-states were pointed out in our interviews in the winter of 2005.27 As for Spain, its case is of course somewhat extreme, as the absence of almost any action in the early NAP I phase led to a high-pressure situation when the new government took over, and things suddenly started happening. Time constraints led countries to focus ‘inwards’. There was simply not enough time for consulting with other member-states and learning from them, although some valuable consultations did take place within the framework of the Climate Change Committee (see Vis 2006b, 204). No wonder then that the logic of the process resembled a ‘race to the bottom’, where competitiveness concerns gave member-states incentives to over-allocate permits.28 As noted in Chapter 3, the strongest indication of this dynamics was the observation that, in 2005, the number of allowances distributed to installations in order to cover 2005 emissions was about 4 per cent higher than actual CO2 emissions. The Commission as Watchdog The Commission was assigned the function as the main supervisor and watchdog in relation to the processes of drawing up the NAPs and implementing the ETS. In the spirit of a decentralized system, ‘the Commission’s role was always going to be one of moderate tightening, as opposed to wholesale revision’ (Vis 2006b, 201). As mentioned in Chapter 3, the Commission was also responsible for producing guidelines to Annex III for the NAP I process. These guidelines were criticized for being vague and delayed. In December 2003, Point Carbon reported that allocation processes were slowing down, as all parties waited for the allocation guidelines from the European Commission, guidance as to the treatment of new entrants was characterized as far from clear.29 However, as pointed out by CEPS (2005), we should bear in mind that, in line with their preferences for a decentralized ETS and the assignment of moderate watchdog powers, also the member-states would rather have guidance that was not too clear or restrictive. As shown in Chapter 5, the European Parliament tried to increase harmonization and make Annex III more detailed, but failed – largely 27 UK interviews, 16 February 2005. 28 This has also been pointed out in other studies; see for example Bowyer et al. 2005, 18. 29 Point Carbon (22 June 2004), ‘Feature: New Entrants Reserves are the Great Unknowns’; CEPS 2005, 22.

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because the member-states did not want to give too much influence to the European Commission on allocation. So did the efforts of the European Parliament and the Commission pay off in terms of higher levels of ambition? The answer is yes, to some extent. At the outset of the NAP I process, several Commission representatives expressed explicit wishes for ambitiousness in the member-state NAPs and related scarcity in the subsequent market. For instance, the head of DG ENV, Catherine Day, stated in February 2004: ‘there must be an underlying scarcity in the market’ and ‘the scarcity will exist at two levels: overall for the installations covered by the Directive, and individually, installation by installation’.30 This call was repeated by DG ENV senior official Peter Vis in April 2004: ‘the market cannot be long as a whole, there must be scarcity if it is to work.’.31 So, from the very outset, the Commission tried to encourage memberstates to make an extra effort. On the whole, it managed to shave off some 290 million tonnes of the proposed NAP I total, as well as securing commitments to cancel the remains of new entrants’ reserves in several cases. However, this represents only 4.5 per cent of the total allocation of about 6.6 billion tonnes – not very much. In NAP I the Commission spent considerable time on the continuing and administratively burdensome quarrelling with EU heavyweights like the UK and Germany. The case of the UK has been characterized as the most protracted; it concerned the UK’s attempt to revise and adjust its 2005–07 total cap 20 million tonnes upwards (from 736 to 756 million tonnes CO2) in light of revised energy and emissions projections. Although the UK took its case to the Court of Justice and got principal approval there in November 2005, the Commission refused to accept the UK’s revised plan. As for the German case, it centred on the German government’s wish to ‘ex post’ take back allowances if actual emissions should come in below expectations (indicating over-allocation). The Commission maintained that this would add unnecessary uncertainty to an already complex situation; it refused, but lost out in the end. Neither of these cases involved large quantities of allowances. However, judging by Peter Vis’s account of these processes, the Commission saw these ‘heavyweight cases’ in a wider perspective and was worried about possible precedence effects (Vis 2006b). As to effects in terms of percentages shaved off proposed NAPs, the role of the Commission was more important in the cases of Italy and Poland. Their proposed NAPs were rejected by the Commission, and continuing pressure led to relatively significant changes in both cases. For Italy, the final annual cap was 23 million tonnes lower than the initially proposed 255.5 million tonnes – 232.5 million tonnes and hence a 9 per cent cut.32 Poland went through several rounds, finally ending up with an annual cap of 235.6 million tonnes – down 42 million tonnes or about 15 per cent from the initially proposed 277.4 million tonnes. With NAP II, the Commission adopted a generally tougher line of action. In its first assessment round in late November 2006, the Commission proposed changes 30 Point Carbon (2 February 2004), ‘NAPs Must Leave EU Emissions Market Short’. 31 Point Carbon (22 April 2004), ‘EC Calls for Market Scarcity’. 32 EU Energy (3 June 2005), ‘EC Cuts Italian NAP by 9%’, Issue 109, 3–4.

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to nine out of ten plans, together accounting for around 42 per cent of the emissions covered by the ETS. Given Germany’s position as top EU emitter, the 28 million tonnes (approx. 7 per cent) shaved off its plan was particularly important – from a suggested 482 million tonnes to the accepted 453.1 million tonnes. The 27 per cent cut of the EU’s third-largest emitter, Poland, was also a significant act of increased toughness. As noted in Chapter 3, the suggested NAP II cap cuts add up to around 9 per cent, already clearly above what the Commission achieved in NAP I (see Tables 3.4 and 3.6). With the introduction of explicit and specific formulas for deciding NAP II overall and CDM caps, it is important to note that the Commission, rather quietly and almost unnoticed, has in practice already introduced a more centralized model for setting caps in the EU ETS. What is basically left for the member-states is the installation-level allocation. The apparently quiet overall acceptance of this development is probably grounded in an increasing realization among memberstates that the decentralized approach they initially favoured has not worked well enough. In addition come the May 2006 shock-waves related to the first publication of 2005 ET emissions indicating significant over-allocation. In sum, there are EU-level factors which can shed light on common pilot phase moderation. Especially the decentralized NAP I process, spurring an initial ‘race to the bottom’ and the setting up of the Commission as a moderately powerful watchdog, is important in this respect. However, the harmonizing elements of the national allocation process and the utilization of its ‘watchdog’ role exerted by European Commission have pulled in the direction of higher levels of ambition, as expected. This development has been taken a significant step forward in NAP II. Let us then move on to other possible explanations at the international level. International Perspective According to the final proposition put forth in Chapter 2, a strong link between the EU ETS and the climate regime’s flexible mechanisms, and low industrial exposure to global competition, would increase the willingness of member-states to accept ambitious ETS allocation. The first part of this proposition primarily concerns the link between the NAPs and the Clean Development Mechanism (CDM). As noted in Chapter 5, the link between the EU ETS and the Kyoto mechanisms was hotly debated in the decision-making processes. A main outcome was that it became possible for EU member-states to use credits/allowances stemming from CDM projects already from 2005 on, which could potentially influence both the NAP I processes and the very functioning of the ET market. As CDM projects in developing countries entail higher risks and greater complexity than allowance trading between industrialized countries, it is generally assumed that CDM allowances/credits will be traded at lower prices than EU allowances. The availability of CDM credits would thus make it easier for industries to agree to ambitious measures, implying that a strong link between the NAPs and CDM is likely to increase ambitiousness. The second part of the proposition has to do with the fact that the industries covered by the ETS are exposed to global competition (albeit to varying degrees);

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hence it may be inadequate to look only at domestic and EU factors in order to fully understand EU industry strategies and action. In essence, the moderate level of ambition may have been caused by opposition from EU industries fearing global competitive effects. Industry Competition and Opposition The EU ETS covers only certain industries and ‘activities’. Basically, we may distinguish between two main categories of ET industries: power producers, and power consumers. Power production in the EU normally takes place within subregional European markets, so global competition is not a relevant factor in this case. The power consumers have generally been highly sceptical to a strict cap-and-trade system. The question here is whether power-consuming industries under the EU ETS are exposed to global competition which has further amplified their resistance to ambitious allocation. In 2004, the British Carbon Trust organization published a study of the implications of the EU ETS for industrial competitiveness in the UK (Carbon Trust 2004). Of the five sectors studied (electricity, cement, paper, steel, and aluminium), global concerns were found to be of some relevance only for the four latter, of which aluminium is not included in the EU ETS. As for cement, although it cannot travel economically far on land, it can be transported at sea at reasonable cost. However, at least in the case of the UK, import penetration from outside the EU is very low (around 5 per cent), so only in a longer-term scenario, with considerably higher allowance prices, do global concerns really kick in. The same basically goes for paper, where imports from outside the EU are at around 15 per cent. Steel, however, is in a somewhat different position. Industry believes that, due in part to the significant global trade in steel, it may be very difficult to pass cost increases (caused by the ETS) through to prices (ibid., 19). Especially in a more long-term scenario with considerably higher allowance prices, the Carbon Trust notes: ‘EU producers would suffer if other major producers did not face carbon constraints’ (ibid., 20). Although the Carbon Trust has studied only British industry, there is little reason to believe that the situation is fundamentally different for the power-consuming industries of other EU countries. For instance, in March 2005, the president of the Polish metallurgical industry federation noted the booming demand for steel in the global market and how the EU ETS could negatively affect Polish exports to this market.33 On the whole, although the issue of global competition is relevant, it is not very important in this connection. Of the industries so far covered by the EU ETS, global competition appears to be most important in the case of steel. Thus, there is little reason to ascribe the moderate ambitiousness of ETS NAP I to fears about global competitive effects. On the other hand, the factor will probably become more important in a long-term perspective, particularly if global competitors remain outside the global regulatory framework that succeeds the Kyoto Protocol. 33 EU Energy (25 March 2005), ‘Government, Industry “Disappointed” by EU NAP Decision’, Issue 104, 18.

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Still, resistance from industrial target groups appears to be a significant reason for the moderate level of ambition in phase I. If we look at the strategies of industries in the four countries selected for analysis in this chapter, the similarities in resistance are far more striking than the differences. In the UK, several observers have reported that industry engaged in lobbying in order to maximize their allocations under the EU ETS.34 For instance, when James Cameron, CEO of ‘Climate Change Capital’ addressed a UK Parliamentary Committee, he stated: ‘Claims on competitiveness around the UK’s allocation plan – led by the CBI – have been very badly managed ... very misleading, counterproductive and irresponsible, but they have worked’.35 In Germany, ‘The president of the BDI … expressed his satisfaction that new burdens on industry had been prevented’ while WWF Germany stated that ‘the red-green coalition had “castrated” the EU ETS by giving in to industry’.36 Similarly, other sources reported about ‘industry sceptical of emissions trading plan’ and the situation ‘complicated by the various lobby groups vying to influence the system to suit their interests’.37 In Spain, the pressure from industry changed from an effort to sabotage the whole implementation process to ensure that the ambitiousness of the allocation, the cap, was lenient.38 In Poland, strong dissatisfaction was reported on the part of industry: industry did not feel it had been given sufficient credit for undergoing a painful restructuring process.39 Also trade union opposition was noted, as allowances were seen as too low and it felt that they would slow production in one of the fastest growing economies in Europe.40 When the Commission demanded a significant cut of the proposed Polish cap in the spring of 2005, this created a further uproar in Polish industry, not least in the cement, steel and power sectors.41 These scattered observations indicate that industry in general lobbied to maximize its allocations under the EU ETS, and this can add to our understanding of moderate ambition levels in the first round of allocation. But industrial lobbying seems to have been based on general concern about rising abatement costs, rather than fear of global competition. 34 ENDS Report (February 2004), ‘Horsetrading Gets Under Way on Emissions Allocation Plan’, Issue 349, 5; ENDS Report (May 2004), ‘DEFRA Loses the Initiative with Delayed Emissions Allocation Plan’, Issue 352, 41; Friends of the Earth (27 October 2004), ‘Blair Caves in to Industry on Climate’, FoE press release. 35 ENDS Report (January 2005), ‘MPs Attack CBI “Scaremongering” on Climate Change Costs, Issue 360, 30. 36 Euractiv (31 March 2004), ‘German Emissions Trading Compromise Hailed by Industry, Condemned by Green NGOs’. 37 Deutsche Welle (25 February 2004), ‘German Industry and Green at Loggerheads over Emissions Plan’. 38 Interviews in Madrid, 9–10 May 2005. 39 Point Carbon (14 May 2004), ‘Viewpoint: Polish ETS Case Undermining Kyoto Principles?’, Point Carbon, Carbon Market Europe, 1. 40 International Environment Reporter (28 July 2004), ‘Poland Developing Draft Plan with Business to Join European Carbon Trading Scheme’, 27:15, 586. 41 EU Energy (25 March 2005), ‘Government, Industry “Disappointed” by EU NAP Decision’, Issue 104, 18.

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EU ETS and the CDM The Linking Directive opened up for the possibility of using credits stemming from CDM projects already from the start of the EU ETS in 2005. However, the EU countries have no formal international targets to comply with before the 2008–12 Kyoto commitment period. This is why discussions about NAP I ambition-levels centred on a ‘path towards’ the Kyoto targets in the ETS 2005–07 pilot phase and ‘consistent with’ the Kyoto targets 2008–12. In reality there was little sense in ‘using up’ CDM credits in the pilot phase, even if they were available (which they were only to a very limited extent, as further described below). Although interest in and priority given to the development of CDM projects surged in the wake of high ETS prices in 2005 (see Grubb and Neuhoff 2006, 19), the capacity of the CDM Executive Board to assess and approve projects has been limited.42 The CDM Board has been characterized as a bottleneck in the system.43 By late 2006, approximately 1400 projects had been submitted, with some 430 formally registered. Of these, the Board had approved 88 projects and actually issued ‘Certified Emissions Reductions’ (CERs), the latter amounting to 22 million tonnes CO2.44 This is roughly similar to Slovenia’s total allowances in the ETS pilot phase. Seen in light of the over-supply of allowances in the pilot phase, and the still non-operative UNFCCC International Transaction Log (the global allowance registry, meaning no formal possibility to use CDM credits so far), no companies seem inclined to use CDM credits for compliance purposes in the ETS pilot phase.45 This means that the CDM factor is basically insignificant for understanding the level of ambition in NAP I. However, for the second phase of the EU ETS, the CDM issue becomes far more pertinent. Earlier EU discussions about ‘supplementarity’ centred on the extent to which member-states could rely on credits from the Kyoto mechanisms. As further discussed in Chapter 5, in addition to opening up for CDM credits from 2005 on, a main outcome was a general requirement that the use of the mechanisms should be only ‘supplemental to domestic action’. In the Commission’s December 2005 guidelines for second-phase NAPs, no further specified limit was introduced. The Commission merely repeated that member-states’ planned use of such credits should be consistent with their supplementarity obligations under the Kyoto Protocol. States were free to choose whether to apply the limit individually with respect to each installation, or collectively to all installations.46 42 The CDM Executive Board is composed of ten members drawn from all constituencies of parties to the Kyoto Protocol. 43 See, for example, Egenhofer 2005; Reuters/Planetark (9 November 2006), ‘Investors Wary of Kyoto Market Controls’. 44 Point Carbon (13 December 2006), ‘CDM and JI Project Pipeline’, CDM & JI Monitor, 3. 45 EU Energy (6 April 2007), ‘Delays in Registry-ITL Links Threaten Emissions Trading from 2008’, Issue 155, 10. 46 European Commission (22 December 2005), COM(2005)703 Final, Communication from the Commission: Further Guidance on Allocation Plans for the 2008 to 2012 Trading Period of the EU Emissions Trading Scheme (Brussels), 7–8.

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The Commission’s first NAP II verdict in late November 2006 provided further clarification on supplementarity. The press release was explicit: ‘the Commission considers that, as a general rule, installations should be allowed to use JI and CDM credits to supplement their allowance allocation by up to 10 per cent. In assessing proposed limits that are greater than 10 per cent, the Commission has taken into account the efforts a member-state has to undertake to respect its Kyoto target’.47 As mentioned, in November 2006, nine out of ten proposed NAP II plans were rejected by the Commission. In three of these cases (Ireland, Sweden and Malta), this included the proposed use of JI/CDM credits. Overall, the Commission has cut seven out of 19 CDM plans, more than halving the plans of Ireland, Spain and Poland. This specified and tougher line taken by the Commission can also be seen in light of alarming reports published in autumn 2006, indicating that member-states’ planned use of JI/CDM credits at this point was ‘significantly larger than the expected shortage’ (of allowances).48 This planned use indicated downward pressure on prices in phase two of the ETS and low incentives to abatement within the EU itself.49 Hence, it is clear that how the member-states and the Commission further handled this issue is of substantial importance for the climate policy success of the ETS, and the possibility of seeing allowance prices rising to levels stable and high enough to spur substantial further abatement efforts in the EU. Somewhat paradoxically, the CDM factor may increase the willingness of governments to take on ambitious ETS targets, but in the implementation phase mean less abatement in the EU area. Hence, increased global (cost) effectiveness may go hand in hand with less reductions within the EU. This can be seen most clearly in the case of Germany, whose acceptance of the Commission’s more stringent NAP II cap was accompanied (and domestically ‘sweetened’) by an increased planned use of CDM. In conclusion, the link between the EU ETS and the climate regime’s flexible mechanisms is insignificant in terms of explaining the level of ambition in NAP I. However, this factor has played and will play a more significant role in NAP II. Conclusion How can we explain similarities and differences in the implementation of the EU ETS thus far? Our first proposition took a decentralized EU ETS as its point of departure and held that it would lead to low but varying levels of environmental ambition. We can see that this proposition has received significant empirical support. In line with the expectations displayed in Chapter 2, the member-states over-allocated the total number of allowances, and National Allocation Plans were delayed. Moreover, the

47 European Commission (29 November 2006), IP/06/1650, Emissons Trading: Commission Decides on First Set of National Allocation Plans for the 2008–2012 Trading Period (Brussels), 3. 48 WWF (November 2006), ’Use of CDM/JI Project Credits by Participants in Phase II of the EU Emissions Trading Scheme – A WWF Summary of the ECOFYS UK Report’ (UK: WWF). 49 Ecofys (27 November 2006), ’Market Risks becoming Long’, Press release.

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differences in implementation appeared more striking than the similarities, indicating the importance of domestic-level explanations. We singled out four key EU emitters – the UK, Germany, Spain and Poland – for more in-depth analysis. These countries varied in terms of implementation ambitiousness and they represented different geographical EU areas. Varying implementation could be explained by differences in institutional fit, differing needs for ambitious EU ETS implementation to achieve relevant EU or Kyoto targets, as well as climate policy ‘drive’. However, our analysis also showed the significance of administrative capacity, especially in the case of Poland as well as the new Central and East European member-states. These countries had generally targets under the Kyoto Protocol which were generous, due to ‘Berlin Wall fall’ effects. Furthermore, they were also anxious to not let the EU ETS constrain their future economic growth. Our second proposition took a centralized EU ETS as its point of departure and suggested that it would lead to generally high(er) levels of environmental ambition due to common EU criteria. The EU ETS was basically decentralized, and this led to a ‘race to the bottom’ dynamic among the member-states, since they had incentives to protect their own industries. This process was fuelled by short deadlines and uncertainty about the actions of others. However, the centralized line of thinking can contribute to our understanding of the implementation of the EU ETS, as the EU ETS includes elements of harmonization. The criteria for harmonizing the National Allocation Plans and the ‘watchdog’ role of the European Commission clearly pulled in the direction of less allowances and scarcity in the market. The Commission has rather quietly and almost unnoticed increased harmonization considerably in the NAP II process. Our final proposition was concerned with factors at the international level. It held that low exposure to international competition and strong links between the EU ETS and CDM would pull in the direction of relatively high ambition levels. This proposition gained least support in our analysis, but international competition and inflow of allowances from CDM projects will probably become increasingly relevant in the future. First, it is true that industry opposition in general can shed light on the problems of achieving ambitious allocation and scarcity in the market. Industry in the UK, Germany, Spain and Poland lobbied to maximize their allocations under the EU ETS. However, the relevant sectors are not significantly exposed to global competition. Still, possibly much higher future allowance prices and the inclusion of the globally exposed aluminium sector in the ETS may act to increase the importance of this factor. Second, CDM credits were not used for compliance purposes in the ETS pilot phase, even though the EU countries were formally allowed to do so from 2005. The reason was partly lack of incentives for using such credits in the over-supplied pilot phase, partly lack of capacity of the CDM’s Executive Board to assess and approve projects, and in addition the lack of a formal link, as the global allowance registry has not yet started functioning. The issue of linking is, however, significantly more relevant in the NAP II process. The Commission has tried, with some success, to restrict the use of CDM credits in order to promote more abatement within the EU

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area – at the risk of lowering the willingness of governments to take on ambitious ETS targets. What about the prospects ahead? As noted earlier, although the NAP II process began with alarmingly low ambitiousness, the Commission has since succeeded in toughening up almost all NAPs so far assessed; roughly two-thirds of the EU NAPs. Allowances for the EU ETS’s second phase are currently trading for around €18, so it is clear that the market has some confidence that the EU countries and the Commission will be able to deliver. However, analysts are far from certain that the necessary scarcity and related high and stable allowance price will come about. Not least the uncertainty related to the JI/CDM inflow into the market indicates that it may very well be the consulting and analyst part of the ET market that may look to the future with greatest confidence.

Chapter 7

Conclusions The EU was initially sceptical to the inclusion of emissions trading in the Kyoto Protocol. How then can we understand and explain the subsequent initiation, decision-making and implementation of the EU Emissions Trading Scheme (ETS)? Why did the EU change its position on emissions trading? How did it manage to establish the world’s first international emissions trading system so rapidly? And what are the results so far? These questions are interesting from both an empirical and theoretical point of view. Empirically, the EU ETS constitutes the first international emissions trading system in the world and the single most important climate policy instrument of the EU. How the scheme functions will thus have consequences for the EU’s compliance with Kyoto targets and how the international climate regime will develop in the future. In terms of theory, the EU ETS is an interesting case, as differing approaches and perspectives provide us with differing answers as to why and how the EU ETS developed. Intergovernmentalists will place main emphasis on the nationstate level, and explain the development of the EU ETS as a result of interstate bargaining. According to this approach, the EU member-states took the initiative and shaped the ET system in line with their interests and preferences. By contrast, scholars who hold that multi-level governance is the best lens for understanding EU policy will focus mainly on the EU level, but also point to the complexity of actors and institutions involved at various decision-making levels – non-state actors not least – when explaining what happened and why. According to this approach, the EU Commission took the initiative to the EU ETS, and the Commission and the European Parliament shaped the system, with input from non-state actors at EU level. Intergovernmentalist and multi-level governance approaches emphasize EU-internal factors and actors as the most important for explaining EU policy making. From the perspective of international regime analysis, however, the EU ETS may simply be a product of the international climate regime. According to this approach, which places main emphasis on the international level, the EU ETS initiative was taken as a response to the Kyoto Protocol, reflecting developments within the international climate regime and the international flexible mechanisms. Stated in their extreme form, these approaches appear more competing than they actually are. They are in fact complementary, but highlight different decision-making levels, institutions, actors and mechanisms behind the development of the EU ETS. One central assumption of this book has been that the relative explanatory power of the various explanatory perspectives varies in the different policy phases. Another central assumption is that what happens in the initiation and decision-making phases will have important consequences for implementation – how the system will work in practice.

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In the following, we first sum up the empirical findings from each chapter, before discussing the analytical implications. Finally, we include some reflections on the further review and development of the system. Empirical Findings Chapter 3 analysed collective and individual outcomes, from the conception of the emissions trading idea until implementation of the system began. The first policy initiation phase ran from the 1997 Kyoto Protocol until 2001, when the Commission started to prepare the ET directive proposal. In this period, the Commission developed the EU ETS idea in two Communications and a Green Paper. The idea, launched in a June 1998 Communication, was taken a significant step further in the 2000 Green Paper. Here the Commission suggested a cap-and-trade system; narrow coverage in terms of gases and sectors, with a focus on electricity and heat, but also including such sectors as iron and steel, refining and chemicals; flexibility in participation (opt-in/opt-out); allocation by auctioning; strict penalties for non-compliance; and a basically centralized and harmonized approach to setting the allowance caps that would better secure a central control over the environmental ambitiousness of the system. The next decision-making phase extended from the work on the proposal for an emissions trading directive in 2001 to the adoption of this directive in 2003 and the Linking Directive in 2004. The most significant changes from the Green Paper were undertaken in 2001, when the Commission developed the directive proposal. First, the system was put forward as more decentralized. Member-states were given significant autonomy in drawing up national allocation plans (NAPs) that would determine the cap and the environmental ambitiousness of the system. Second, it was proposed that allocation should be for free in the pilot phase from 2005 to 2007. Third, the system was to be mandatory for all member-states, with no explicit loopholes enabling exemption or the addition of installations or sectors. Fourth, the relationship between the EU system and the Kyoto Protocol’s flexible mechanisms was now explicitly acknowledged, and it was suggested to specify this relationship in a subsequent, specific linking directive. Finally, the chemicals sector was eliminated from the proposed system. The basic structure of the emissions trading directive proposal remained intact through the EU decision-making process, where, as prescribed by the co-decision procedure, the European Parliament and the member-states played the main formal role. The changes made in the final directive included specification of NAP criteria, an opening for some auctioning, limited possibilities for opt-in and opt-out, and possibilities for pooling of installations. With regard to the Linking Directive, the initial Commission proposal put forward in mid-2003 suggested specific, quantified restrictions on the use of CDM and JI and no linking before 2008. The final directive changed the Commission proposal in the direction of more lenient restrictions on the use of CDM and JI, including no quantitative restriction or cap on the import of such credits. This could reduce compliance costs, but it might also lessen the pressure on EU governments to take real action in their own countries.

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The first implementation phase covered here ran from the adoption of the emissions trading directive in 2003 until early 2007. This includes the pilot phase allocations and implementation (NAP I, 2005–7), but also the main part of the allocation process for the Kyoto commitment phase (NAP II, 2008–12). We based our assessment on overall goal attainment: the ability of the EU ETS to promote reductions of greenhouse gas emissions. As this goal is of a fairly long-term character, in order to assess the more short-term progress, two main criteria were applied as proxies: timeliness and, particularly, the ambitiousness of the national allocation plans. Ambitiousness is the central concern, as it represents the intermediate key to actual reduction of greenhouse gas emissions. If the EU ETS is to have any effect on emissions, there must be fewer allowances than there would have been emissions in the absence of the system. On this point, however, it should be born in mind that only short time has passed, and measuring ambitiousness is quite difficult. Against this backdrop, we first concluded that, on the whole, the system has been moderately successful so far. Implementation has been marked by significant delays and relatively low ambitiousness – which looks set to change somewhat in NAP II. We also observed significant variation in implementation performance. After examining the cases of four key emitters from different regions within the EU, we concluded that the UK has been the leader and Poland the laggard. Germany and Spain are in the middle, but Spain stands out as an example of significant change towards better implementation. Chapter 4 aimed at explaining the observations in the initiation phase. Why and how did the idea of the EU ETS develop within the EU? The first proposition was based on the international regime approach, and held that the initiation of the EU ETS was a result of pressure, opportunities and learning induced by the Kyoto Protocol. Based on a specific set of criteria representing expectations that would be in line with this proposition, our empirical analysis showed that this proposition gained strong support. Emissions trading was not part of the EU’s negotiating position in Kyoto, but it nevertheless became part of the Kyoto Protocol, together with an obligation for the EU to reduce emissions by 8 per cent from 1990 between 2008 and 2012, and for all to show ‘demonstrable progress by 2005’. The European Commission launched the idea of emissions trading as an explicit response to the Kyoto Protocol. This strongly indicates that the European Commission prepared for implementing emissions trading by 2005 due to general pressure induced by the provisions included in the Kyoto Protocol. The Kyoto Protocol also provided economic opportunities: the EU had economic incentives to develop the EU ETS to reduce compliance costs with the Kyoto target. Finally, the Kyoto Protocol facilitated learning by linking the active US promotion of emissions trading to the EU Kyoto commitments, and through detailed international negotiations on international emissions trading. This effect became particularly important when the USA withdrew from the Kyoto Protocol in spring 2001. The EU ETS thus became an instrument for implementing the Kyoto Protocol commitments, even though the Protocol did not require emissions trading and was at the time not legally binding. On the other hand, the EU did expect the Protocol to enter into force. According to the second proposition, it was the European Commission that changed its previously sceptical position on emissions trading and initiated the EU

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ETS, independently of the member-states. Also this proposition gained significant empirical support. Shortly after the Kyoto Protocol, DG Environment changed both personnel and position on climate policy instruments. Those who had favoured command-and-control were replaced by economists who preferred economic policy instruments. A ‘Bureaucrats for Emissions Trading’ (BEST) group was formed. This change was facilitated by the need for new climate policy instruments like emissions trading, when it became clear that adoption of the proposed directive on the carbon/energy tax would be impossible due to the requirement of unanimity. The Commission also built up independent knowledge on emissions trading and crafted support by internal stakeholders. Emissions trading was a new policy instrument, and the Commission initiated a comprehensive study programme based on external expertise to prepare for the EU ETS. In addition, the Commission launched various consultation processes that also served as a tool for the Commission to build up knowledge, capacity and not least support among stakeholders. The Commission’s initiation of the EU ETS was facilitated by support of (or at least absence of direct opposition from) non-state actors in general and target groups in particular. Major industry federations such as UNICE and EURELECTRIC, the latter representing the power producers and the major target group under the EU ETS, were cautiously positive. Moreover, the Commission could count on support from the oil major BP, which developed its own internal emissions trading system, followed by Shell. During the Kyoto Protocol negotiations ENGOs had opposed emissions trading, but major organizations like the CNE later softened its opposition. Different aspects of emissions trading were framed by the Commissions as attractive to different stakeholders for different reasons. For industry, the instrument was presented as a cost-effective tool which could even provide economic opportunities for shrinking emitters. Emissions trading would provide companies with a tradable asset, whereas taxes extract revenues from companies. For ENGOs, the instrument would be environmentally effective, given an ambitious cap and adequate design. Combined, this would provide governments with a cost-effective and environmentally effective policy instrument. Emissions trading thus emerged as a magic formula for economic development and climate protection. According to our last proposition, a change in the positions of member-states was what led to the initiation of the EU ETS; the Commission acted on a request from member-states and anticipated broad-based support. This proposition did not gain much empirical support. Only a few countries (the UK, Denmark, the Netherlands, Sweden and Ireland) initially supported the idea of emissions trading within the EU. The UK had a formal opportunity to take the initiative to the EU ETS, as it occupied the EU Presidency in the spring of 1998. However, the UK initially focused on developing a domestic emissions trading system – not a European one. Moreover, the Commission could not anticipate broad-based support for the emerging EU ETS. National responses to the 2000 Green Paper indicated that votes for and against/indifferent to emissions trading were roughly equal – and among those that were positive, positions varied widely on harmonization and design. Furthermore, emissions trading was not directly requested by the Council of Ministers, which did not seriously discuss the matter until 2000. However, the Council of Ministers did, with increasing intensity, request proposals from the Commission on effective policy

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instruments that could break the increasing emission trends and bring the EU on the path towards complying with the Kyoto Protocol. In this sense, we can say that the Council indirectly requested an EU ETS. Even though these three perspectives and propositions gained varying degrees of empirical support, they all have something to contribute in explaining how and why the idea of emissions trading developed within the EU. First, the Kyoto Protocol set the target and the timeframe, and suggested a new cost-effective policy instrument that the EU would have incentives to implement. At the same time, economists favouring emissions trading joined the ranks of DG Environment. These factors appear as necessary conditions for the development of the idea. The EU ETS would probably not have been initiated – or at least not so quickly – in the absence of one of these factors. The interplay between the member-states in the Council of Ministers and the Commission also became important. On the one hand, the BEST group in the European Commission took the initiative, built up independent knowledge, and crafted support among internal stakeholders. On the other hand, the member-state representatives in the Council of Ministers requested the Commission to develop cost-effective policies and measures for complying with the Kyoto commitments. In short, the Commission supplied a policy instrument that could deliver the results that were demanded by the Council of Ministers within the constraints of the Kyoto Protocol. In Chapter 5, we discussed to what extent, how and why the relevant actors and institutions affected the design and adoption of the EU ETS. Our first proposition here stated that the EU ETS reflected the positions of the member-states. This proposition gained significant, but not full, empirical support. The positions of the member-states were divergent concerning design, but they developed toward more convergence in 2001. Against this backdrop, the EU ETS ended up as a basically decentralized system, particularly with regard to national allocation of allowances. This provided the member-states with significant discretion and autonomy in setting the cap on emissions. In the subsequent linking proposal process, a majority of the member-states was also able to remove the proposed cap on the import of credits from CDM, and change the time from when linking could start. The final observation here was not, however, fully in line with our expectations according to this proposition. Germany and the UK – the two largest member-states in terms of votes in the Council and share of the allowance market – had to give in and accept a mandatory scheme in the pilot phase. The concessions given to them in the final directive were relatively insignificant. This shows that individual EU governments did not have control over the collective decision-making process even though they represented the largest EU states, in terms of votes and share of the problem. The main reason why the UK and particularly Germany had to yield was that the directive was proposed on the basis of Article 175 (1) of the EC Treaty, which provides for qualified majority voting in Council. Even though the directive was adopted by unanimity among the member-states, the possibility of a vote created pressure on these countries to make significant concessions. The skill of the Danish presidency in crafting the compromise, and furthermore internal rivalry within Germany (which weakened its negotiating position), also contribute to explaining this outcome. Not only did the EU ETS go beyond the ‘lowest common

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denominator’: it also differed significantly from the preferences of the two biggest countries in the system. The next proposition stated that the EU ETS reflected the harmonization ambitions of the Commission and the Parliament, rather than the positions of the memberstates. This proposition gained only limited support, although the Commission, and particularly the BEST group, continued to play an important role also in this phase. Both the European Commission (at least initially) and the European Parliament preferred a more centralized system, particularly with regard to the allocation of allowances. However, the Commission was able to counterbalance many changes made to the proposed directive with several harmonizing guidelines and a right to approval. For example, the Commission now has the right to approve and (if necessary) reject NAPs. The Commission was also very active backstage in Council negotiations, as the Commission had more than a two-year lead on most memberstates when it came to building up knowledge. As to the efforts of the European Parliament to broaden the scope of the system, the Commission’s formal ability to counter such moves by rejecting them can help us understand the Commission’s success in this respect. The European Parliament aimed at making significant changes to the decentralized nature of the scheme, as well as to coverage and the method of allocation. However, the final result was only some modifications in this direction. For example, the Parliament did not get a mandatory cap for each state, but ended up with a formulation that the total amount of allowances should be consistent with a path towards the Kyoto targets. Seeking to explain why the Parliament had such limited impact even though it had the power to reject the directive, we identified three main reasons. First, on many issue the Parliament was up against a powerful alliance between the Commission and a majority of the member-states and industry. Second, the time constraint imposed by Kyoto made the Parliament very reluctant to end up as the one who delayed the start-up of the scheme by necessitating conciliation between the Council and Parliament. If that had happened, the Kyoto Protocol deadline of ‘demonstrable progress by 2005’ would most likely been beyond reach. Finally, the Parliament proposed too many amendments (some 80 in the first reading) and for a long time lacked key focal points. The generally-held view that the influence of Parliament is conditioned by degree of unity and support cannot explain limited influence in this case. Non-state actors did only to a limited extent affect the EU ETS in the decisionmaking phase. When decision-making is based on qualified majority, the influence of non-state actors in this phase tends to decrease. For influence to be effective, lobby activities need to be coordinated across the member-states. Here the chemical industry was effective, as it managed to remain outside the scheme. Neither the Commission nor the Parliament was able to withstand the opposition expressed by the chemical industry, represented by the European industry federation CEFIC. Under unanimity rules, German industry would probably have blocked the adoption of the directive. At EU level, however, most industry and ENGOs expressed overwhelming support for the EU ETS towards the end of the decision-making phase, even though differences in opinion persisted on specific design elements.

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The final proposition stated that the EU ETS came to reflect developments within the international climate regime. This proposition gained significant, but not full, support. In line with the proposition, we would first expect that a crisis in the international climate regime penetrated internal EU decision-making process. Such a crisis did in fact occur when the USA withdrew from the Kyoto Protocol in March 2001. The US exit first helped to unify the positions of the Commission, the member-states, the Parliament and non-state actors in support for the basic design of the EU ETS. This was also stimulated by the increased likelihood that the Kyoto Protocol would enter into force, following the Bonn and Marrakech agreements in the summer and autumn of 2001. As noted, the member-states became generally more positive to the EU ETS in 2001. Second, the US withdrawal placed the EU ETS in the spotlight as the instrument that would give the EU credibility in its ‘saving the Kyoto Protocol’ campaign. These effects were mutually reinforcing – the EU ETS represented the main instrument for implementing, and, then increasingly, saving the Kyoto Protocol. If the US exit from the Kyoto Protocol had led to a collapse in the climate regime as foreseen by the Bush Administration, the EU ETS would perhaps not have been adopted. As this collapse did not happen, the Kyoto Protocol continued to affect the speed of the decision-making process on the EU ETS, through its ‘demonstrable progress by 2005’ time-limit and the 2008–12 commitment period. These timelimits placed pressure on the EU actors and institutions, particularly the European Parliament, to avoid conciliation and adopt the EU ETS in time for achieving the Kyoto commitments. All in all, the Kyoto Protocol and developments within the climate regime were probably the most important factor in explaining why the EU ETS was adopted at all. But even though the EU expected that the Kyoto Protocol would enter into force, the international climate regime did not significantly affect the specific design of the EU ETS. This was because the rules for international emissions trading were developed for governments, not industry, and they were developed later than the EU ETS. Again, we see that all three perspectives have something to contribute, despite their varying explanatory power. The member-state-based perspective explains the decentralized nature of the EU ETS. The EU-institutional perspective explains why more auctioning was allowed than favoured by the member-states, and why NAPs had to be approved by the Commission in relation to the Kyoto target. The international climate regime perspective explains why support for an EU ETS increased in 2001, why the ET Directive did not go into conciliation as many other environmental directives tend to do, and not least why the EU ETS was adopted at all. Chapter 6 addressed the implementation of the EU ETS, and how to explain similarities and differences in implementation. As noted above, the criterion we have applied for assessing implementation is goal attainment, operationalized as environmental ambitiousness in the total allocation of national allowances as well as punctuality in fulfilling the implementation tasks, especially the production of NAPs. Unless emission caps can be set far enough below the business-as-usual needs of the participating industries to lead to a scarcity of allowances and hence drive allowance prices high and stable enough to warrant investments in abatement efforts, the goal of promoting reductions of greenhouse gas emissions will simply not be met.

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The first proposition analysed was based on the member-state perspective, and stated that a decentralized EU ETS will lead to low but varying environmental ambitiousness due to differing national circumstances. As the NAP I process was leaning towards the decentralized side, various expectations follow from this proposition. First, we expected to find that the member-states had over-allocated the total amount of allowances in relation to projected needs. Our observations for the first NAP process are in line with this. Based on a combination of expert evaluations of NAP I and verified data showing that the total amount of allowances distributed to installations to cover 2005 emissions of CO2 was 4 per cent higher than actual emissions, we concluded that ambitiousness was quite low. As expected, this seems to have been caused by a relatively low degree of harmonization, which, combined with high initial uncertainty and tempo in the allocation process, triggered a ‘race to the bottom’ dynamics. Each country had incentives to protect its own industries by providing them with generous allocations. As we shall se below, however, a low degree of harmonization does not mean no harmonization, and there are signs that the ‘race to the bottom’ dynamics has been counterbalanced in the second allocation round, where uncertainty has been reduced and basic trust among the participants increased. We also expected that differences in implementation would be more marked than the similarities, and that important explanatory factors could be identified at the domestic level. Although most countries seem to have ‘over-allocated’ in NAP I, the verified figures for 2005 allocation and emissions further underpin the impression of significant differences in ambition-level – spanning from Lithuania, which had 51 per cent more total allocations than emissions, to the UK, with 17.7 per cent less than its allocation. We chose to compare the UK, Germany, Spain and Poland, as these four have performed differently and represent different EU regions. Our main conclusion here is that a significant degree of variation can be explained by a combination of differing institutional fit between the EU ETS and existing national climate policy instruments; differing need for ambitious measures targeting the industries covered by the ETS due to varying progress in relation to the EU Burden-sharing Agreement and Kyoto targets; and differing climate policy progress and ‘drive’. According to the second proposition, a centralized EU ETS will lead to generally high environmental ambitiousness due to common EU criteria. This proposition cannot be assessed in full as the EU ETS was basically decentralized, at least in the pilot phase. However, the preparation of the NAPs was not totally decentralized or unconstrained. Various guidelines and criteria were adopted for allocation, and the Commission had a right to approve NAPs. Even though the initial guidelines were criticized for being vague and being published too late, the European Commission used its authority to cut 290 million tonnes from the proposed NAP I total. This represented around 4.5 per cent of the total allocation of 6.6 billion tonnes. In NAP II, the Commission has so far shaved off around 9 per cent of the allocations. Interestingly, the Commission has rather quietly and almost unnoticed already introduced in practice a more centralized model for setting caps in NAP II of the EU ETS. This is probably grounded in an increasing realization among memberstates that the decentralized approach they initially favoured has not worked well enough. Thus, even though the allocation system was basically decentralized, part

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of the explanation of the initially moderate, but now improving, ambitiousness can be found at the EU level, not least in the Commission’s role as a ‘watchdog’ for the system. The final proposition stated that a strong link between the EU ETS and the climate regime’s flexible mechanisms, and low industrial exposure to global competition, will increase environmental ambitiousness. The Linking Directive opened up for using CDM already from the start of the EU ETS in 2005. In line with the first part of this proposition, we expected that credits from CDM projects would be included in the NAPs and would result in greater willingness to take on ambitious measures – in the next round meaning decreased incentives for measures in the specific EU area. Hence, we assumed that an important explanation of implementation would be found at international level, particularly in the climate regime and the flexible mechanisms of the Kyoto Protocol. However, the EU states did not use CDM credits for compliance purposes for the 2005–07 pilot phase – partly because of low availability related to low capacity of the CDM Executive Board, partly because they did not have incentives to ‘use up’ such credits before the 2008–12 Kyoto commitment period. Moreover, a formal link was lacking, as the global allowance registry had not started functioning yet. In the second phase, however, the planned substantial use of CDM has already shown tendencies to influence ambition-levels in the way we expect, seen for instance in the case of Germany. Furthermore, this planned increase may call into question the level of abatement to be expected within the EU itself. The Commission has thus imposed restrictions on the use of JI and CDM credits and a number of NAPs have so far been adjusted on this basis. This means that the flexible mechanisms under the climate regime is about to become a significant factor for understanding the overall level of ambitiousness and not least the EU-internal incentive effects flowing from the ETS. We also explored the impact of exposure to international competition on ambitiousness. Since the relevant industries included in the EU ETS (except for steel) are not significantly exposed to global competition, taking into account such competition is not likely to increase our understanding of ambitiousness very much. However, industrial opposition can still shed light on the problems of achieving scarcity in the market. Industry in the UK, Germany, Spain and Poland lobbied to maximize their allocations under the EU ETS. As these countries represent different regions of the EU, similar lobby activities probably also took place in most of the then 21 other EU countries. Analytical Implications Our first observation is that the three explanatory perspectives have, as expected, had differing explanatory power in the different policy phases. The EUinstitutional perspective emerges as most important in the policy initiation phase. The European Commission acted as a truly entrepreneur in this phase, by initiating the EU ETS, build independent knowledge and craft support for the system. There would not have been any EU ETS, had it not been for the entrepreneurial role

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played by the Commission’s BEST group – at least not within the same short time-frame and in the same content and form. The second perspective, which was based on the interests and preferences of the member-states, proved most important for explaining the outcome in the decision-making phase. The diversity of the positions of member-states led to a basically decentralized EU ETS that provided each member-state with significant autonomy in the important process of allocating emission allowances to industry. The third perspective, based on the international climate regime, proved valuable for understanding all three phases, by drawing our attention to the interaction between external and internal explanatory factors. The EU ETS is unlikely to have been adopted without the Kyoto Protocol. Where do these observations leave us with regard to the three explanatory approaches that formed the point of departure for the specific explanatory perspectives that have structured this study? As noted in Chapter 2, intergovernmentalism and multi-level governance cannot be tested empirically in any strict sense, because central claims are difficult to operationalize. This study supports the complementary nature of these approaches, while also pointing up the need for a third approach, emphasizing the international institutional context. This finding may appear somewhat surprising in light of the insignificant attention given to the international institutional context in the literature on EU (environmental) policy making. This case shows that the climate regime has been crucially important for explaining outcomes not only in the initiation phase, but also in the decision-making and the implementation phases. The impact of the international climate regime is particularly interesting, as this took place before the Kyoto Protocol formally entered into force and became legally binding for the EU. It is reasonable to assume that the main reason can be found in the firm EU expectation that the Kyoto Protocol would gain enough ratifications to be able to enter into force. As international environmental agreements grow in number and depth, the relationship between the EU and international regimes will probably become increasingly important for understanding the development and implementation of EU environmental policy. That said, however, it is clear that the EU ETS stands out as a prime example of multi-level governance that encompasses four identifiable levels of policy competencies: (1) non-state actors in the form of private companies have been designated the role as the key operators within the system; (2) the member-states allocate emission allowances, (3) EU institutions oversee the common legal emissions trading framework; finally (4), the EU ETS is linked to the flexible mechanisms at the heart of the Kyoto Protocol. This study also gives support to the assumption that supranational institutions, as actors, have had an independent impact on the EU ETS that clearly surpasses their role as agents of national governments. Moreover, the EU as an institutional arena has affected the outcome to the extent that the two biggest member-states were not able to control the collective outcome. Finally, the outcome would most likely have been different in the absence of non-state actor influence at EU level. Under qualified majority, national arenas are not the sole channel for non-state actor influence at EU level and states do not ‘keep the gate’ between national and international politics. On

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the basis of strong industrial opposition, Germany generally opposed the EU ETS, but had to accept the system due to the qualified majority rule. Under unanimity, industrial pressure might well have motivated Germany to block the adoption of the directive. Conversely, the chemical industry managed to stay out of the EU ETS at least partly due to effective lobbying directly at EU level. This case illustrates the importance of being sensitive also to non-state actor influence at the EU level. The second observation is related to the concept of leadership and the entrepreneurial role of the European Commission. This is particularly interesting in light of Moravcsik’s critique of entrepreneurial leadership in the EU: ‘Why should governments, with millions of diverse and highly trained professional employees, massive information-gathering capacity, and long standing experience with international negotiations at their disposal, ever require the services of a handful of supranational entrepreneurs to generate and disseminate useful information and ideas?’(Moravcsik 1999b, 273). Our study has clearly shown that governments sometimes need exactly that – a ‘handful’ of Commission entrepreneurs. The EU ETS indicates that there are at least three conditions for the Commission to play this role, given its exclusive right to initiate legislation: incentives, knowledge, and support from non-state actors. The Commission took the initiative to emissions trading because it had incentives to do so. These incentives came partly from the fact that emissions trading was a costeffective way of complying with Kyoto commitments, and partly from the failure to get an energy/carbon tax adopted. As to the second condition, the Commission could, and had to, build up independent knowledge, as the EU member-states knew very little about emissions trading. This gave the Commission asymmetrical control over information. This observation is in line with our earlier emphasis on domestic uncertainty, disagreement and preferences that are not fixed as facilitators of entrepreneurial leadership. Third, the Commission was able to craft support among non-state actors – industry representing the target groups and ENGOs. The Commission did not act alone. This case actually shows the significance of multi-level leadership, as differing types of leadership were exercised at different levels of decision-making by different types of actors. Previous work on leadership in relation to international (environmental) regimes has mainly focused on the criteria that distinguish leadership from other behaviour, and different types of leadership, distinguished by the mechanism through which leadership is exercised and the capabilities required to succeed (Underdal 1991; Young 1991; Malnes 1995; Skodvin and Andresen 2006). Types of leadership have also been related to different policy phases, but not to different levels of society, as the focus has mainly been on negotiating parties. The case of the EU ETS shows that leadership at a range of levels across state and non-state actors may be needed to realize common goods. The oil major BP stood out an important corporate leader, adopting an internal emissions trading system to achieve a 10 per cent reduction in emissions. As this 10 per cent reduction goal was achieved, BP’s leadership role can be described as leadership by unilateral action based on a combination of a first-move strategy and demonstration that emissions trading works in practice (Underdal 1991). The capability required to exercise this role is that BP is one of the largest private oil companies in the world. When a multinational oil company that makes its living from

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two of the main causes of anthropogenic climate change – oil and gas – implemented emissions trading on a voluntary basis, it became difficult for other companies and industry federations to dismiss the EU ETS. At the level of nation-states, the USA played the role as an intellectual leader that produced the intellectual capital to affect the perspectives of others (Young 1991). The emissions trading idea originally came from the USA, the first country to apply this policy instrument to reduce pollution. According to Vis (2006a, 40), one reason why the EU ETS was agreed so quickly is simply that emissions trading happens to be a good idea. Lessons from the US sulphur dioxide trading programme were systematically put to use in the design of the EU ETS. At EU level, the European Commission acted as an entrepreneurial leader. The Commission managed to find the means to achieve the common goal: the Kyoto commitments. Entrepreneurial leadership is related to negotiating skill and ability to develop integrative solutions (Underdal 1994; Young 1991). The Commission – or, more precisely a key group of persons within the Commission (the BEST group) – took the initiative, built up knowledge, and crafted support for the EU ETS. This was made possible by various factors including the formal role of the Commission as the body with exclusive right to initiate legislation within the EU. The final observation is that what happens in the initiation and decision-making phases will have important consequences for implementation. In Chapter 2, we discussed how institutional arrangements established in an early phase may be important for outcomes at later stages. This assumption has previously been related to access and participation: to what extent are those responsible for implementation involved in developing the ends and means at earlier stages? In this study, we have focused on the link between the initial degree of harmonization and implementation. Here we have found that the relatively low level of environmental ambitiousness in the first round of national allocation plans can be traced back to a decentralized allocation system, reflecting the fact that the member-states had significant influence in the decision-making phase. The dilemma is that the more the member-states control the allocation of allowances, the higher legitimacy of the system – but lower the very ambitiousness of the system. Conversely, the less member-states can control allocation, the lower the legitimacy – but, easily, higher the level of environmental ambitiousness. The tension between legitimacy and ambitiousness is not static but may change over time. The results from the almost-complete second NAP round indicate that the Commission is less generous in its acceptance of NAPs than in the first round. This may indicate a deliberate strategy aimed at establishing high autonomy and legitimacy first, and then gradually an increase in the level of ambition, accompanied by a reduction in autonomy. This strategy may well work, as it resonates with earlier work on the importance of the dynamic, step-wise development of international institutions and recent findings pointing to the importance of legitimacy in the implementation, compliance and effectiveness of international environmental regimes (Young and Zürn 2006). In addition to legitimacy and ambitiousness, the robustness and stability of institutions is frequently emphasized in the literature. As noted in Chapter 2, the rapid adoption of the EU ETS seems particularly puzzling in light of the assumption

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that it takes time for actors and institutions to change, adapt and adjust to new ways of dealing with ‘old’ problems. Institutional cooperation is generally hard to change once collective norms, behavioural regularities and convergent expectations have developed. The point here is that none of the EU environmental policy regularities, norms and expectations included emissions trading. It was rather the converse: the EU opposed emissions trading as a policy instrument during the Kyoto negotiations for tactical, practical and ethical reasons. Without dismissing this historic-institutionalist perspective, emphasizing that institutions are conditioned by the past and institutional developments tend to be path-dependent, it seems as if the EU carbon/energy tax triggered a sort of ‘negative’ path dependency. Ever since the early 1990s, the Commission had been working for a common and highly structured carbon/energy tax as the core climate policy instrument. Due to the requirement of unanimity and persistent opposition from some member-states, it became clear around the time of the Kyoto Protocol that the EU energy/carbon tax would not materialize in its intended form. The EU ETS thus fulfilled a need to break the deadlock. In this way, the EU ETS was also conditioned by the past. The Road Ahead It is too early to draw any meaningful implications concerning the EU ETS at this stage, beyond the crucial importance of the relationship between legitimacy and ambitiousness determined by the level of harmonization between EU institutions and member-states. The consequences of the EU ETS for actual reductions of CO2 cannot be judged yet. The critical test will be the extent to which, over time, the EU ETS leads to significantly more reductions in greenhouse gases than would have been the case in the absence of the system. This will require counterfactual analysis where the presumed causal agent, the EU ETS, is removed. As indicated in Chapter 3, the further development of the ETS was to be discussed in a review report submitted to the Commission by the end of June 2006. However, as has been the case with several other deadlines within this process, no such report was on the table by that deadline. A Communication was then put forward in November 2006, launching a prolonged consultation process which will involve specific revision proposals in the course of 2007.1 An important forum for the review process will be the European Climate Change Programme Working Group on the Review of the ETS. This will be a multi-stakeholder consultative process in which

1 European Commission (29 November 2006), COM(2006)725 final, Communication from the Commission to the Council and to the European Parliament on the Assessment of National Allocation Plans for the Allocation of Greenhouse Gas Emission Allowances in the Second Period of the EU Emissions Trading Scheme, Accompanying Commission Decisions of 29 November 2006 on the National Allocation Plans of Germany, Greece, Ireland, Latvia, Lithuania, Luxembourg, Malta, Slovakia, Sweden and the United kingdom in Accordance with Directive 2003/87 (Brussels).

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experts from the EU Commission, member-states, academics, industry and ENGO community work together, and submit a report by 30 June 2007.2 In Chapter 2, we discussed how coverage, allocation of allowances, compliance and enforcement, external links, and harmonization are core ETS design issues. As of this writing (May 2007), the state of affairs with regard to signals about the revisions of these central design elements can be summed up as below. We distinguish between probable changes to the EU ETS Phase II (the Kyoto commitment period, 2008–12) and Phase III (2013–20). The EU ETS is legally committed to continue after 2012, as no end date is specified in the Directive. As main Phase II design elements were already settled in the 2003 ET Directive, the main (but not sole) focus in the review process is on changes set to take effect in Phase III: •





As to coverage, only one significant change seems likely in Phase II: the inclusion of air transport in the system. In December 2006, the Commission put forward a proposal to include emissions from flights within the EU from 2011 on, and subsequently all flights from and to EU airports from 2012 on.3 In Phase III, coverage will probably increase. The inclusion of more transportsector activities will continue. In April 2007, the EU Commission floated the idea of including shipping companies. More gases will also be included, with probable candidates including methane from coal mines, N2O from ammonia production, and PFCs from aluminium production. It is also likely that carboncapture projects will be approved and integrated as a relevant measure in the ETS. With regard to the allocation of allowances, as was noted and discussed in Chapters 3 and 6, the Commission has already introduced a more centralized model for allocations than what was set out in the 2003 Directive. As Phase II allocation will soon be finished, no major formal changes seem likely for this phase. As can be recalled, already the ET Directive established a 10 per cent limit on the allocation of allowances by other means than for free for Phase II. However, for Phase III allocations, there will probably be marked changes. Handing out allowances for free is bound to be significantly reduced. It is interesting to note that in March 2007 EU Energy Commissioner Andris Piebalgs suggested no allowances for free at all in Phase III.4 Furthermore, a further harmonization of allocation methodologies will probably take place. In addition, a possible single EU-wide ETS emissions cap is on the agenda. As to compliance and enforcement, further harmonization and streamlining of the reporting, monitoring and verification procedures and systems will probably be carried out in Phase II. The streamlining process will include further clarification of key concepts within the system such as ‘installation’ and

2 Ibid., 6, 11. 3 European Commission (20 December 2006), COM(2006)818 final, Proposal for a Directive of the European Parliament and of the Council Amending Directive 2003/87/EC so as to Include Aviation Activities in the Scheme for Greenhouse Gas Emission Allowance Trading within the Community (Brussels). 4 Argus Media (6 March 2007), ‘Auctioning of Allowances to Increase in EU ETS Phase 3’, Argus Media Limited.

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‘new entrants’. As to Phase III, a possible EU legal framework (a Regulation) for reporting and monitoring, as well as a single EU emissions registry, are on the agenda. With regard to links to trading systems outside of the EU, Norway will link up to the EU ETS in 2008. Further candidates for linking either in Phase II or (most likely) Phase III include Switzerland and New Zealand, as well as regional schemes in the USA, like the ‘Regional Greenhouse Gas Initiative’ (RGGI, with nine northeastern and mid-Atlantic states, set to start in 2009) and a possible California ETS (set to start in 2012).

In March 2007, new climate-energy commitments were presented by the EU heads of government. A binding unilateral EU commitment to cut GHGs by at least 20 per cent by 2020 compared with 1990 levels was adopted (30 per cent if other developed countries made comparable efforts and economically more advanced developing countries made adequate contributions) followed by an ambition that developed countries should aim at collective cuts in emissions of 60–80 per cent by 2050. In addition to the EU ETS, this target should be reached by more renewables, more biofuels, more energy efficiency and not least a strategic energy technology plan for strengthening research into renewables, energy efficiency and low-carbon technologies. The EU ETS and these new commitments show that the EU is now increasingly matching ambitious rhetoric with practice and will continue to play an important role in international climate policy beyond 2012. Based on the strong relationship between the EU ETS and the Kyoto Protocol, the experience gathered by implementing the scheme will become important for the international discussions on future commitments within the framework of the Protocol. In addition, how the linking between the EU ETS and other ET schemes develops will affect the emergence of a global carbon market and the architecture of a future climate regime that may include important emitters that are not part of the Kyoto Protocol. A possible more forceful re-entering of the USA in global climate politics after the 2008 election is a key determinant both for the development of international carbon markets and the overall success of climate change mitigation ahead.

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Annex I

List of Interviews Jorge Moreira Da Silva, ETS Rapporteur, European Parliament, 11 February 2002. Rob Bradley, Climate Action Network (CNE), 11 February 2002 and 26 May 2004. Christian Egenhofer, Centre for European Policy Studies (CEPS), 12 February 2002 and 13 January 2006. Henning Arp, European Commission, DG Environment, 12 February 2002. Peter Zapfel, European Commission, DG Environment, 13 February 2002. Frazer Goodwin, Transport & Environment, 18 June 2003. Per Stiansen, Ministry of Environment, Norway, 16 January 2004 and 26 October 2006. Trygve Hallingstad, Ministry of Environment, Norway, Brussels representative, 26 May 2004 and 12 January 2006. Ulf Bjornholm-Ottosen, Swedish Delegation to the EU, 26 May 2004. Terhi Lehtonen, European Parliament, 27 May 2004. Sabina Magnano, European Parliament, 27 May 2004. Michael Wriglesworth, International Emissions Trading Association ( IETA)/CEPS, 27 May 2004 and 16 May 2006. Frank Brannvoll/Jenny Schulz, Storaenso/Alliance of Power Consuming Industries, 27 May 2004. John Scowcroft, Eurelectric, 28 May 2004 and 11 January 2006. Håvard Vaggen Malvik/Kåre Rudsar, European Commission, DG for Energy and Transport, 28 May 2004. Chris Dodwell, Department of Environment, Transport and the Regions (DEFRA), UK, 16 February 2005. Adrian Gault, Department of Trade and Industry (DTI), UK, 16 February 2005. Teresa Ribera, Ministry of Environment, Spain, 9 May 2005. Larry Philps, CO2 Spain, 9 May 2005. Lucia Martin Bermejo, Confederation of Industry, Spain, 10 May 2005. Pedro Mora, Cement Industry, Spain, 10 May 2005. Javier Rodriguez Morales, Paper Industry, Spain, 10 May 2005. Jose Luis Ortega, Greenpeace Spain, 10 May 2005. Eduardo Loma-Osorio Riano/Felix de las Fuentes, Iberdrola, Spain, 10 May 2005. Klaus Werner, E.ON AG, Germany, 28 September 2005. Felix Christian Matthes, Öko-Institut e.V, Germany, 28 September 2005. Stefan Besser, Ministry of Environment, Germany, 28 September 2005. Joachim Löchte, RWE AG, Germany, 29 September 2005. Jürgen Landgrebe/Thomas Langrock, Federal Environmental Agency, Germany, 29 September 2005.

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Peter Vis, European Commission, DG Environment, 12 January 2006 and 15 May 2006. Damien Meadows, European Commission, DG Environment, 12 January 2006. Paal Frisvold, Bellona Norway, Brussels office, 12 January 2006. Ulf Sviden, Ministry of Environment, Sweden, 1 March 2006. Mark Hayden, European Commission, DG for Economic and Financial Affairs, 15 May 2006. Harald Francke-Lund, Pollution Control Authority, Norway, 8 November 2006.

Index ACCF, see American Council for Capital Formation Ad Hoc Group on the Berlin Mandate (AGBM) 5, 66, 67, 89 AGBM, see Ad Hoc Group on the Berlin Mandate allowance allocation 13, 14–15, 39–40, 154–8 passim, 194 and EU institutions 78, 79, 120–25 passim, 125–38 passim, 142, 156, 171–4, 179 and industry 120–25 passim, 175–6 and international climate regime 32, 48, 174–8, 179–80 and member states 21–2, 41–3, 44, 45, 48, 49–63, 96, 104–5, 108, 111, 119, 132, 155, 159–71, 178–9 see also National Allocation Plans (NAPs) ALTENER 4, 5, 6 American Council for Capital Formation (ACCF) 150–51 American Petroleum Institute (API) 150–51 API, see American Petroleum Institute Australia 66 Austria 6, 21, 89 and Linking Directive 116, 117 and NAPs 53, 54, 56, 57, 60, 61 response to Commission Green Paper 96, 98 BDI (Bundesverbund Deutscher Industrie) 82, 108, 120, 163, 176 Belgium 6, 21 and NAPs 56, 57, 60, 61 response to Commission Green Paper 96 Bjerregaard, Ritt 76–7, 99 BP, see British Petroleum British Petroleum (BP) 75, 86, 88, 90, 93, 100, 109

Bundesverbund Deutscher Industrie, see BDI Burden-sharing Agreement 5–6, 42, 43, 44, 51, 72–3, 77, 100, 104, 152, 155, 160 France 92 Denmark 165 Germany 94, 165 Greece 97 Poland 168 Portugal 97 Spain 97, 166, 171 UK 88, 162 Bush, George W. 7, 105, 143–8 passim Canada 35, 66, 145, 147, 152 carbon tax, see energy/carbon tax CCAP, see Center for Clean Air Policy CDM, see Clean Development Mechanism CDU, see Christian Democratic Union CEECs, see Central and Eastern European Countries CEFIC 84, 86, 121, 124–5, 157 CEMBUREAU 84, 85 Center for Clean Air Policy (CCAP) 78–81, 86 Central and Eastern European Countries (CEECs) 167–9, 179 and Kyoto Protocol 168–9 and NAPs 51, 54, 59 CEPI 84 Christian Democratic Union (CDU) (Germany) 109–10 Christian Social Union (CSU) (Germany) 109–10 Clean Development Mechanism (CDM) 5, 35, 70 and EC ETS 7, 13, 31–2, 64 decision-making phase 46, 47, 48, 115, 128, 138–41, 152, 154

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implementation phase 52, 58–61, 163, 174, 177–8, 179–80 initiation phase 38, 82 Climate Action Network Europe (CNE) 76, 82, 84, 85, 122 Clinton, Bill 143 CNE, see Climate Action Network Europe compliance and enforcement 13, 194–5 decision-making phase 43, 45, 48, 104–5, 111, 120, 123, 129, 135, 137, 142, 155 implementation phase 164 initiation phase 40, 78, 79 Confederation of British Industry 90 Confederation of Netherlands Industry and Employers 90–91 coverage 12, 194 decision-making phase 42, 44–5, 48, 108, 120, 125–38 passim, 142 implementation phase 161–2 initiation phase 39, 78, 79 CSU, see Christian Social Union Cyprus and NAPs 51 Czech Republic and NAPs 54, 56, 57, 58, 60, 61 da Silva, Jorge Moreira 126–30, 132, 133, 134, 138 de Meana, Ripa 4 de Roo, Alexander 125–6, 139–41, 154 decision-making phase (of EU ETS) 8, 11–14, 41–9, 63, 103, 182, 185–7 and ENGOs 105, 120, 122, 128, 130, 132, 157, 186 and EU institutions 24–6, 33, 41–9, 119–42, 156–7, 186 Parliament 125–38, 139–41, 142 and industry 105, 120–25, 130, 132, 150–51, 157, 186 and international climate regime 31, 33, 142–54, 157–8, 187 and member states 20–21, 33, 41–2, 44, 48, 103–19, 154–6, 185–6 see also design elements (of EU ETS), harmonization (of EU ETS) Delbeke, Jos 74, 77, 80, 82, 83, 86, 150 Denmark 6, 21, 73, 100, 144, 161, 184 and Burden-sharing Agreement 165 and ET Directive 113–14, 119, 131, 156

and initiation phase of EU ETS 87, 90, 96, 97, 98 and NAPs 53, 54, 56, 57 response to Commission Green Paper 96, 97, 98 design elements (of EU ETS) 12–13, 194–5 decision-making phase, 41–3, 44–6, 48, 103–14 passim, 119, 120–25 passim, 125–38 passim, 142, 149, 154–8 passim implementation phase 161–2 initiation phase 39, 70–71, 78–9, 99 type of system 12 decision-making phase 103–14 passim, 120–25 passim, 125–38 passim, 142, 145, 154–8 passim initiation phase 39, 78, 79 under Phases II & III 194–5 see also allowance allocation, compliance and enforcement, coverage, harmonization, links Eastern Europe 66, 145 see also Central and Eastern European Countries (CEECs) ECCP, see European Climate Change Programme ECJ, see European Court of Justice Elf Aquitaine 92 emissions trading overview of 2 scheme design elements 12–13 allowances, allocation of 13, 14–15 compliance and enforcement 13 coverage 12 links 13 type of system 12 scheme harmonization 13–14 see also EU Emissions Trading Scheme and under Kyoto Protocol Emissions Trading Group UK 82, 88 energy/carbon tax 4–5, 6, 12, 14, 74–6 passim, 89, 99, 100, 101, 107 energy efficiency programmes 4 see also SAVE ENGOs, see environmental non-government organizations Environmental Defense Fund 75 environmental non-government organizations (ENGOs)

Index and ET Directive 105, 120, 122, 128, 130, 132, 157 and EU ETS 2, 8, 27, 29–30, 33 decision-making phase 105, 120, 122, 128, 130, 132, 157, 186 initiation phase 76, 77, 80–81, 82, 83–6, 90, 91, 92, 93, 100, 184 France 92 Germany 92, 93 and Linking Directive 139 Netherlands 91 UK 90 EP, see European Parliament Estonia and NAPs 53, 56, 57, 58 EU climate policy ALTENER programme 4, 5, 6 Burden-sharing Agreement see Burdensharing Agreement energy/carbon tax 4–5, 6, 12, 14, 74–6 passim, 89, 99, 100, 101, 107 history of 3–8 SAVE programme 4, 5, 6 institutions, see EU institutions and Kyoto Protocol 1, 5–7, 35, 65–73, 143–51, 157–8, 181 member states, see member states see also EU Emissions Trading Scheme, EU institutions, European Commission, European Council, European Court of Justice, European Parliament, memberstates EU Emissions Trading Scheme (EU ETS) 1 Emissions Trading Directive 7, 9, 14, 21, 32, 35, 43–6, 48, 73, 103, 138, 142, 154–8 proposals for 41–3, 103–6, 148–50, 152–3, 154–8 responses to proposals 106–14, 119–38, 145, 150–51, 154–8 explanatory approaches to 1–2, 8–9, 15–19, 181, 189–93, see also intergovernmentalist approach, international regime approach, multilevel governance approach Linking Directive 13, 32, 35, 46–7, 48, 103, 136, 142, 153–4, 158, 177

211

responses to 115–18, 119, 138–41, 153–4, 155 Phase II & III 194–5 phases of 2–3, 8, 11–15, 63–4, 182–9, see also decision-making phase, implementation phase, initiation phase EU ETS, see EU Emissions Trading Scheme EU institutions 16 and EU ETS 2, 8, 23–7 decision-making phase 24–6, 33, 41–9, 119–42, 156–7, 186 harmonization 13–14, 26, 40, 41–2, 44, 48, 156, 171–4, 179 implementation phase 26–7, 33, 171–4, 179, 188–9 initiation phase 23–4, 33, 35–41, 73–87, 99–100, 183–4 see also European Commission, European Council, European Court of Justice, European Parliament EURELECTRIC 79–80, 82, 84, 85, 100, 122 Greenhouse Gas and Energy Trading Simulations (GETS) 79–80, 85 EUROFER 84 European Chambers of Commerce 122 European Chemical Industry Council 82 European Climate Change Programme (ECCP) 7, 41, 69, 81, 82–6, 95, 120, 121, 122 European Commission 23 Directorate General (DG) Competition 121, 124 Directorate General (DG) ECFIN 82, 122 Directorate General (DG) Enterprise 82, 121, 122, 123, 124, 157 Directorate General (DG) Environment 24, 74, 76–7, 101, 103–4, 105–6, 121, 122, 124, 131, 139, 157 BEST (Bureaucrats for Emissions Trading) group 74–7, 78, 79, 80, 82–6, 99, 124, 129, 131, 142, 150 Climate Change Unit 86, 104, 120, 146, 150 Directorate General (DG) Market 122, 124 Directorate General (DG) Trade 122 Directorate General (DG) TREN 82, 122

212

EU Emissions Trading

and EU ETS 1, 8, 63–4 decision-making phase 24–5, 26, 41–3, 46–9, 120–25, 130–38, 139–41, 142, 146–7, 156–7, 158 harmonization 26, 41–2, 44, 48, 171–4 implementation phase 26–7, 171–4 initiation phase 23–4, 35–41, 67–8, 70, 71, 72, 74–81, 82–6, 94–8, 99–100 Green Paper on emissions trading 7, 11, 35, 38–42, 63–4, 65, 71, 72, 78, 81, 82–6 member-states’ responses to 97–8, 100 and history of EU climate policy 3–8 passim, 11 and Kyoto Protocol 67–8, 70, 71, 138–41, 142, 146–7, 158 European Council 20–21 Environment Council 3, 89, 106–7, 110–11, 113, 146, 147–8, 151 and EU ETS 8 decision-making phase 24, 25, 41, 43– 6, 106, 130–38 passim, 139–41, 142, 146–7, 155–6, 157 harmonization 44, 96–8 initiation phase 94–8, 100–101 and history of EU climate policy 3–8 passim and Kyoto Protocol 67, 68, 70, 138–41, 146–7 and Linking Directive 138–41 European Court of Justice (ECJ) 23 and EU ETS 8 implementation phase 26–7, 173 European Parliament (EP) 23 Committee on the Environment, Public Health and Food Safety 25, 44, 80–81, 126–8, 134–7, 140–41 and ET Directive 125–38, 156–7 and EU ETS 8, 83, 100 decision-making phase 24, 25–6, 41, 43–6, 106, 125–38, 139–41, 142, 156–7, 158 harmonization 26, 44 implementation phase 171, 173 and history of EU climate policy 3 Legal Affairs Committee 126 and Linking Directive 118, 138–41 European Roundtable of Industrialists 122

EUROPIA 75, 84, 86, 122 ExxonMobil 151 FIELD, see Foundation for International Law and Development Finland 6, 21, 104, 156 and ET Directive 104, 126, 127, 132, 156 and Linking Directive 117 and NAPs 53, 56, 57 response to Commission Green Paper 96 Foundation for International Law and Development (FIELD) 78–81, 82, 86, 90, 122 France 4, 6, 21, 87 and Burden-sharing Agreement 92 and ET Directive 113 and initiation phase of EU ETS 91–2, 96, 97, 98 and Linking Directive 116, 117, 118, 139, 141 Ministry of Economics and Finance 92 Ministry of the Environment 92 Ministry of Foreign Affairs 92 Ministry of Industry 92 and NAPs 56–63 passim National Plan to Combat Climate Change 91 response to Commission Green Paper 96, 97, 98 Free Democratic Party (Germany) 109 German Emission Trading Group 92, 105 Germany 6, 21, 73, 147, 151 and Burden-sharing Agreement 94, 165 and ET Directive 104, 105, 107, 108–12, 119, 120, 122, 126, 127, 132, 145, 155–6 and implementation phase of EU ETS 163–5, 170 and initiation phase of EU ETS 92–4, 97, 173 and Linking Directive 116, 118 Ministry for Economics and Labour 92, 109 Ministry for the Environment 92, 109, 164 and NAPs 53–60 passim, 62, 163, 164, 173, 174, 178 response to Commission Green Paper 97

Index Gore, Al 144 Green Party (Germany) 109–10 Green Party (MEPs) 25, 125–6 Greece 4, 21 and Burden-sharing Agreement 97 and initiation phase of EU ETS 94, 97 and Linking Directive 117 and NAPs 56, 57, 59, 60 response to Commission Green Paper 97 Hamburg Electricity Utility (HEW) 109 harmonization (of EU ETS) 13–14, 194–5 and ENGOs 84–5 and EU institutions 13–14, 26, 40, 41–2, 44, 48, 129, 136, 142, 156, 171–4, 179 and industry 84–5 and member states 13–14, 40, 41–2, 44, 48, 86, 96–8, 108, 111 Henningsen, Jørgen 74 Hungary and NAPs 54, 56, 57, 60, 61 ICCF, see International Council for Capital Formation implementation phase (of EU ETS) 8, 14–15, 49–63, 64, 159, 183, 187–9 and EU institutions 26–7, 33, 171–4, 179, 188–9 and industry 175–6, 179, 189 and international climate regime 31–2, 33, 174–8, 179–80, 189 and member states 21–2, 33, 49–63, 159–71, 178–9, 188 industry British 88, 90, 130, 175, 176, 179 Dutch 90–91 and ET Directive 105, 120–25, 130, 132, 157 and EU ETS 2, 8, 27–9, 33 decision-making phase 105, 120–25, 130, 132, 150–51, 157, 186 and implementation phase 175–6, 179, 189 initiation phase 75–6, 79–81, 83–6, 88, 90–91, 92, 93, 99–100, 184 French 92 German 92, 93, 108–12, 122, 130, 145, 157, 163–4, 176, 179 and Linking Directive 47

213

Polish 169, 175, 176, 179 Spanish 176, 179 US 150–51 initiation phase (of EU ETS) 8, 11, 35–41, 63, 182, 183–5 and ENGOs 76, 77, 80–81, 82, 83–6, 100, 184 and EU institutions 23–4, 33, 73–87, 99–100, 183–4 and industry 75–6, 79–81, 83–6, 99–100, 184 and international climate regime 30–31, 33, 65–73, 98–9, 183 and member-states 20, 33, 87–98, 100–101, 184–5 Intergovernmental Panel on Climate Change (IPCC) 3, 147 intergovernmentalist approach (to EU ETS) 2, 8, 16–18, 65, 101, 154–6, 158, 178–9, 181, 189–93 international climate regime and EU ETS 2, 8–9, 18–19, 30–32 decision-making phase 31, 33, 142–54, 157–8, 187 implementation phase 31–2, 33, 174–8, 179–80, 189 initiation phase 30–31, 33, 35–41, 65–73, 98–9, 183 see also Kyoto Protocol, United Nations Framework Convention on Climate Change (UNFCC) International Council for Capital Formation (ICCF) 150–51 international regime approach (to EU ETS) 2, 8–9, 18–19, 65, 101, 157–8, 179–80, 181, 189–93 IPCC, see Intergovernmental Panel on Climate Change Ireland 4, 6, 21, 184 Advisory Group on Emissions Trading 91 and initial phase of EU ETS 91, 96, 97, 100 and Linking Directive 140 and NAPs 53, 54, 56, 57, 58, 59, 60, 178 response to Commission Green Paper 96, 97 Italy 6, 21 and Linking Directive 117 and NAPs 54, 56, 57, 58, 59, 173

214

EU Emissions Trading

response to Commission Green Paper 96

Kasyanov, Mikhail 152 Klassen, Ger 74 Kyoto Protocol 11, 18 and CEECs 168–9 and EU 1, 5–7, 35, 65–73, 143–51, 157–8, 181 and EU ETS 7, 9, 30–32 decision-making phase 43, 44, 45–7, 48, 115, 133–6 passim, 138–41, 142, 143–54, 157–8 implementation phase 174–8, 179–80 initiation phase 35–41, 65–73, 98–9 NAPs 49–63 passim, 174–8, 179–80 mechanisms of 5, 35–41, 43, 45–7, 48, 133, 135, 136, 138–41, 142, 148, 149, 152 see also Clean Development Mechanism (CDM), Joint Implementation (JI) and Russia 152–4, 158 and USA 5, 7, 35, 65–70, 98–9, 101, 105, 120, 134, 143–8, 149, 150–51, 152, 155, 157–8

Luxembourg 6, 21 and NAPs 53, 56, 57, 58, 59, 60 Malta and NAPs 51, 52, 59, 60, 178 member states and Burden-sharing Agreement 6, 42, 43, 44, 51, 72–3, 77, 92, 94, 97, 152, 155 and ET Directive 103–14, 123, 154–6 and EU ETS 2, 8, 19–22 allowance allocation 21–2, 40, 41–3, 44, 45, 48, 49–63, 132, 155 decision-making phase 20–21, 33, 41–9 passim, 103–19, 123, 132, 154–6, 185–6 harmonization of 13–14, 40, 41–2, 44, 48, 96–8 implementation phase 14–15, 21–2, 33, 49–63, 159–71, 178–9, 188 initiation phase 20, 33, 35–41 passim, 72–3, 87–98, 100–101, 184–5 and Kyoto Protocol 19, 47, 107 and Linking Directive 47, 115–18, 119, 138, 155 National Allocation Plans (NAPs) 49–53, 61–3, 131, 159–71, 171–4, 178–80 NAP I 53–8, 159–71 passim, 172–3, 174, 175–6, 177–8 NAP II 58–61, 159–71 passim, 173–4, 177–8, 179–80 response to Commission Green Paper 96–8 monitoring 2, 4, 13–14, 39, 49, 79, 84, 96, 104–5, 111, 164 multi-level governance approach (to EU ETS) 2, 8, 15–16, 17–18, 33, 65, 156–7, 158, 179, 181, 189–93

Latvia and NAPs 53, 56, 57, 59, 60 Linking Directive 13, 32, 35, 46–7, 48, 103, 136, 142, 153–4, 158, 177 responses to 115–18, 119, 138–41, 153–4, 155 links 13, 14, 195 see also Linking Directive and Kyoto Protocol under EU Emission Trading Scheme Lithuania 188 and NAPs 52, 56–60 passim

NAPs, see National Allocation Plans National Allocation Plans (NAPs) 7, 14–15 ambitiousness 51–3, 159–71 passim decision-making phase 44, 113, 131, 151, 152, 153, 156 implementation phase 49–63, 159–71 passim, 171–4, 175–6, 177–8, 178–80 NAP I 53–8, 159–71 passim, 172–3, 174 ambitiousness 54–8, 174, 175–6, 177–8 timeliness 53–4 NAP II 58–61, 159–71 passim, 173–4, 177–8, 179–80

Japan 35, 66, 145, 147, 148, 149, 152 Joint Implementation (JI) 5, 35, 70 and EU ETS 7, 13, 31–2, 64 decision-making phase 46, 48, 115, 128, 138, 139, 152, 154 implementation phase 52, 58–61, 163, 174, 178, 180 initiation phase 38, 82 JUSCANNZ and Kyoto Protocol 66, 69

Index ambitiousness 58–61, 180 timeliness 58 timeliness 50–51, 159–71 passim Netherlands 6, 21, 113, 151, 184 and initiation phase of EU ETS 87, 90–91, 96, 97, 98, 100 and Linking Directive 116 and NAPs 53, 54, 56, 57, 60, 61 response to Commission Green Paper 96, 97, 98 Trading Commission 91, 113 New Zealand 66, 195 Norway 66, 86, 195 Persson, Göran 144, 145 Poland 113 and Burden-sharing Agreement 168 and implementation phase of EU ETS 167–9, 170, 171, 173, 174, 179 Ministry of the Environment 168, 169 and NAPs 54–62 passim, 63, 167, 173, 174, 178 Portugal 4, 6, 21, 73, 126 and Burden-sharing Agreement 168 and initiation phase of EU ETS 94, 97 and Linking Directive 117 and NAPs 56, 57 response to Commission Green Paper 97 Prodi, Romano 123, 144, 145, 152 Putin, Vladimir 152, 154 renewables programme 4 see also ALTENER Russia 66, 76, 134, 145, 147 and Kyoto Protocol 152–4, 158 SAVE 4, 5, 6 Schröder, Gerhard 108, 109 SDP, see Social Democratic Party Shell 75, 93, 100, 109 Slovakia and NAPs 52, 56, 57, 59, 60 Slovenia 177 and NAPs 53–63 passim Social Democratic Party (SPD) Germany 109–10 Spain 4, 6, 21, 151, 159, 179, 183, 188, 189 and Burden-sharing Agreement 97, 166, 171

215

and implementation phase of EU ETS 165–7, 170, 171, 172 and initiation phase of EU ETS 94, 97 and Linking Directive 117 and NAPs 53–62 passim, 63, 153, 165–6, 167, 172, 178 response to Commission Green Paper 97 Stoiber, Edmund 109 Sweden 6, 21, 162, 184 and ET Directive 104, 106 and initiation phase of EU ETS 91, 96, 98, 100 and Linking Directive 116 and NAPs 53, 56, 57, 59, 60, 178 response to Commission Green Paper 96, 98 Switzerland 66, 195 Thorning, Margo 150 UK, see United Kingdom UNEP, see United Nations Environment Programme UNFCC, see United Nations Framework Convention on Climate Change UNICE, see Union of Industrial and Employers’ Confederations of Europe Union of Industrial and Employers’ Confederations of Europe (UNICE) 28, 75, 82, 84, 100, 121, 122, 151 United Kingdom (UK) 6, 21, 151 Advisory Committee on Business and the Environment (ACBE) 88, 90 and Burden-sharing Agreement 88, 162 Cabinet Committee on the Environment 90 Climate Change Programme 89, 162 Department on Environment, Transport and Regions 90 Department of Trade and Industry 88, 90 and energy/carbon taxes 5, 89 and ET Directive 104, 107, 108, 112–13, 119, 121, 126, 127, 132, 155–6 HM Treasury 90 and implementation phase of EU ETS 160–63, 170, 172, 173 and initiation phase of EU ETS 87–90, 100

216

EU Emissions Trading

Joint Council of Environment and Transport Ministers 89 and Kyoto Protocol 67, 70 and Linking Directive 116 and NAPs 53–60 passim, 62, 113, 160–61, 162 National Audit Office (NAO) 161 response to Commission Green Paper 96, 97 United Nations Conference on Environment and Development 4 United Nations Environment Programme (UNEP) 3 United Nations Framework Convention on Climate Change (UNFCC) 2, 3, 9, 18, 30, 36, 52, 66, 67, 78, 121, 122, 147, 148, 150, 168, 177 United States of America (USA) 3, 195 Environmental Protection Agency (EPA) 69, 83, 143

and EU ETS 150–51, 195 and Kyoto Protocol 5, 7, 35, 65–70, 98–9, 101, 105, 120, 134, 142–8, 149, 152, 155, 157–8 USA, see United States of America VCI (Chemical Industry Association, Germany) 108, 124 Vis, Peter 74, 79, 82, 83 Wallström, Margot 84–5, 104, 105, 120, 124, 130, 131, 144, 146, 151, 153 WMO, see World Meteorological Organization World Commission on Dams 117, 141, 142 World Meteorological Organization (WMO) 3 World Wildlife Fund (WWF) 82, 122, 123, 132, 144, 176 WWF, see World Wildlife Fund Zapfel, Peter 74, 83