Select Committee on Environment, Food and Rural Affairs Minutes of Evidence

Supplementary memorandum submitted by the Department for Environment, Food and Rural Affairs


  1.  As requested at the Environment, Food and Rural Affairs Select Committee, on 24 October 2001, this paper provides a brief guide to national, European and international greenhouse gas emissions trading.

How does trading work?

  2.  The effect on the global environment is the same wherever the emissions come from. Emissions trading allows firms to reduce their emissions of greenhouse gases in the most economically efficient way. An overall emissions reduction target for a group of emitters is set and individual firms then decide how to achieve their own target. Participants can either make "in house" emission reductions (and can sell any reductions surplus to their requirements on the market) or they can buy tradable emission allowances as a way of meeting their targets. But the overall target is still met and therefore the environmental benefit is achieved.

UK Emissions Trading Scheme

  3.  The UK Scheme forms part of the UK Climate Change Programme. When it goes live in April 2001, it will be the world's first economy-wide greenhouse gas trading scheme. The scheme is the successful result of two years co-operation between business, Government and NGOs under the umbrella of the Emissions Trading Group. The UK Scheme will start six years before international trading begins under the Kyoto Protocol. This offers UK business and government a tremendous opportunity to gain early experience of trading and with it a competitive advantage. Business is very engaged—a forward carbon trade has already taken place between DuPont and Mieco, a subsidiary of Marubeni Corporation.

  4.  Firms can enter the Scheme as target holders (Direct or Agreement Participants) or non-target holders (through the project route or by opening trading accounts). Direct Participants will be required to make voluntary absolute emission reductions—to encourage firms to take on these targets, Government is offering a financial incentive of up to £215 million over the five years of the scheme. The scheme will also offer increased flexibility of trading to the 3,500 companies with targets under the Climate Change Agreements (Agreement Participants).

  5.  At the end of each compliance year (31 December), Direct Participants will have three months to reconcile their accounts and emissions data. This will require compiling their emissions data, having it approved by independent verifiers and carrying out any additonal trading to ensure that they hold sufficient allowances to cover their total verified emissions for the year. Failure to hold sufficient allowances will lead to non-payment of the financial incentive and reduction of the number of allowances allocated in the following year. As soon as Parliamentary time allows, we will introduce legislation to set a statutory regime of financial penalties.

  6.  A successful emissions trading scheme is expected to deliver annual savings of around seven million tonnes CO2 per year by 2010 (based on the assumption that there will be further rounds of participants joining the Scheme in future years). We expect the first stage that goes live in April 2002 to deliver reductions in annual emissions levels of around three million tonnes CO2.

EC Proposal for an EU-wide Emissions Trading Directive

  7.  The Commission launched a proposal for an EU-wide emissions trading scheme on 23 October 2001. Detailed negotiations on the measure will start in mid-November. The proposed EU Scheme works in a similar way to the UK Scheme. Installations in sectors covered by the proposed Directive will be subject to a permitting regime involving a mandatory emissions cap. At the end of each compliance year, installations must have "banked" permits equal to their annual emissions. If installations fail to surrender sufficient allowances to cover verified emissions they will be subject to a financial penalty. Member States will also have to report annually to the Commission on the operation of their Scheme.

  8.  We welcome the proposal for a Framework Directive on Trading, but are concerned with the mandatory and regulatory approach the Commission has taken. We are concerned that setting mandatory targets three years before international trading starts may put EU business at a competitive disadvantage. Furthermore, we feel that the proposed EU Scheme does not take full advantage of the opportunity it offers to EU business and governments to gain early experience of trading. Rather than making the opportunity to experience trading as widely available as possible, the EU proposal limits participation. The proposal only covers a limited number of industrial sectors; includes emissions from electricity generators directly (rather than to the end-user of the electricity); and, only includes CO2, rather than all six greenhouse gases (thus excluding firms which emit other gases). We are also concerned that in its current form the proposal would not dovetail well with international trading—leading to confusion and disruption for business and governments in 2008.

International Emissions Trading under the Kyoto Protocol

  9.  The Kyoto Protocol provides for three ways in which developed countries can take action abroad to help them meet their greenhouse gas reduction and limitation targets. The three market mechanisms are: International Emissions Trading (IET), Joint Implementation (JI) and the Clean Development Mechanism (CDM).

  10.  International emissions trading (IET) is perhaps the most innovative and far-reaching of the mechanisms. It allows countries that have achieved emissions reductions over-and-above those required by their Kyoto targets to sell the excess reductions to countries finding it more difficult or expensive to meet their commitments. In this way, IET seeks to lower the costs of compliance for all concerned whilst having the same positive effect on the global environment. As well as participating themselves, Parties to the Kyoto Protocol can also authorise firms (known as legal entities) to take part in international emissions trading, provided that such participation is consistent with the international rules (for example, legal entities cannot trade if the authorising Party fails to meet the eligibility requirements governing use of the mechanisms).

  11.  The 7th Conference of Parties (COP7) met in Marrakech between 29 October and 9 November 2001 and concluded work on agreeing the rules to govern the mechanisms, including the precise accounting rules for how the system of linked national registries will operate, and the question of fungibility (the degree to which emission reduction credits generated under IET, JI and the CDM are inter-changeable). The EU has committed itself to ratify the Kyoto Protocol and hopes that it will enter into force by the World Summit on Sustainable Development in 2002.



  Under the Bonn Agreement, the Global Environment Facility (GEF) was invited to establish three new funds to provide assistance to developing countries:

    —  Special Climate Change Fund—This will finance activities to assist developing countries, including in the fields of adaptation to climate change and technology transfer.

    —  Least Developed Countries Fund—This will support a work programme for the least developed countries, including the preparation and implementation of national adaptation programmes of action (NAPAs).

    —  Kyoto Protocol Adaptation Fund—This will finance concrete adaptation projects and programmes in developing countries which have become Parties to the Kyoto Protocol. It will be financed in part from a share of proceeds from the Clean Development Mechanism.


  The EU, Canada, New Zealand, Norway, Iceland and Switzerland, also made a joint political declaration committing to increase their climate change funding to US$410 million a year by 2005, including GEF contributions and additional bilateral and multilateral funding. The first discussion on the implementation of this declaration, including possible burden-sharing arrangements, is expected to be scheduled shortly.

21 November 2001

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