International Herald Tribune, June 18, 2008

EUROPE'S CARBON MARKET HOLDS LESSONS FOR THE U.S.

[Rachel's introduction: The carbon traders are hoping to make billions of dollars while saving the planet. Unfortunately, the available data suggest that there's tons of money to be made trading carbon, but it won't save the planet.]

By James Kanter

BRUSSELS: As the United States moves toward action on global warming, practical experience with carbon markets in the European Union raises a critical question: Will such systems ever work?

Backers of carbon markets, including the presumptive U.S. presidential candidates Barack Obama and John McCain, see them as one of the cheapest and most effective ways to control greenhouse gases in advanced economies.

Yet the experience in Europe, which established the world's largest greenhouse gas market three years ago, tells a cautionary tale -- one in which politicians and influential industries may be diverting carbon trading from its original purpose of reducing planet-warming gases.

"We currently are in danger of losing yet another decade in the fight against global warming," said Hugo Robinson of Open Europe, a research group in London.

On Wednesday, the European Environment Agency reported that carbon emissions from industries participating in the carbon trading plan, known as cap and trade, continue to rise.

Emissions from factories and plants that trade pollution permits rose by 0.4 percent between 2005 and 2006 and by 0.7 percent between 2006 and 2007, during the first two years of the system's operations.

Europeans took an early lead in efforts to curb global warming, championing the Kyoto agreement and implementing a market-based system in 2005 to cap emissions from about 12,000 factories producing electricity, glass, steel, cement, and pulp and paper. Companies buy or sell permits based on whether they overshoot or come in beneath their pollution targets.

Although the system also underpins Europe's claim to be leading global environmental policy, EU officials acknowledge that establishing such a vast market has been more complicated than they anticipated, and that its effectiveness so far has been limited.

"Of course it was ambitious to set up a market for something you can't see and to expect to see immediate changes in behavior," said Jacqueline McGlade, the executive director of the European Environment Agency. "It's easy, with hindsight, to say we could have been tougher," she said.

A major stumbling block arose at the outset, when some EU governments participating in the effort allocated too many trading permits to polluters when the market was created. That led to a near-market meltdown after the value of the permits fell by half, and called into question the validity of the entire system.

Since then, EU officials have promised tough reforms to fight against special interests, and the price of carbon permits has largely recovered.

Yet a ferocious lobbying battle is under way as EU regulators seek to overhaul the dysfunctional parts of the market by charging polluting companies more and reducing the oversupply of pollution permits traded within the system.

Brussels is also seeking to consolidate its oversight of the market, rather than leave it partly in the hands of EU governments that, in some cases, enabled companies to profit from the system by allocating them more pollution permits than they needed.

"The politics you're now seeing in Europe now are the real politics of carbon," said David Victor, the director of the Program on Energy and Sustainable Development at Stanford University. "The central lesson from Europe is that governments must find ways of managing the allowances that clearly are going to be one of the most valuable pieces of public property in the 21st century," he said.

Energy-intensive industries like power, steel and aluminum have geared up their lobbying machines to challenge proposals that would force them to buy many more permits than in the past. During the three years in which they participated in the first phase of the new market, carbon emissions from the iron and steel sector in Britain alone rose more than 10 percent while emissions in the cement industry rose more than 50 percent, according to transcript from the British Parliament.

The electricity industry in particular is rejecting proposals that would force it to buy all of its allowances. That could prevent utilities like E.ON and RWE in Germany and Vattenfall, a Swedish energy company, from continuing to earn extra money from the system.

Meanwhile, major multinationals like the Anglo-Dutch oil company Royal Dutch Shell and the steel giant ArcelorMittal have threatened to freeze some investments in Europe unless the plan is reviewed. Airlines like the German carrier Lufthansa say the regulations are unworkable without a global deal on greenhouse gas regulations.

And poorer countries in the EU, led by Hungary, are clamoring to overturn emissions allowances that they say are too stingy and risk undermining their economic growth.

The proposals also are under attack from environmentalists, who want to restrict polluters from using large numbers of permits from an offsetting program, the Clean Development Mechanism.

They are concerned that offsets might undermine tight caps and delay efforts to shift Europe to a low-carbon economy because European industries would be rely too heavily on other parts of the world to make reductions.

"The sheer amount of lobbying creates so much uncertainty about the way these markets operate that nobody really is investing in cleaner technologies in Europe," said Robinson of Open Europe.

Carbon markets, also known as cap and trade systems, have come into vogue because they are more politically palatable than imposing new carbon taxes.

Americans pioneered pollution markets in the 1970s and used them on a broader scale with some success during the 1990s to control emissions from power plants that produced acid rain. American officials also pushed hard for emissions trading to be included in the Kyoto climate protocol on the grounds that markets are the most effective way of encouraging innovative emission-reducing technologies.

But the momentum in the United States to create a nationwide carbon market ground to a halt in 2001, when President George W. Bush withdrew support for the Kyoto protocol. Bush said carbon-controls would put an undue burden on the U.S. economy unless fast-growing countries like China and India also made commitments to cut emissions.

Now the tide is turning again in favor of carbon markets in the United States. Although the Senate earlier this month blocked a bill that would have imposed a cap and trade system to slash greenhouse gases by 2050, both candidates for the presidency have pledged support for market-based systems like the one in Europe.

Obama, the presumptive Democratic nominee, has said he supports the use of a market to reduce carbon emissions by 80 percent below 1990 levels by 2050. His proposal would require pollution credits to be auctioned rather than given away to big industries, including coal and oil companies.

McCain favors giving permits away to big polluters before moving to an "eventual" auctioning of permits to reduce emission levels 60 percent below 1990 levels by 2050.

Victor, the Stanford director, said Americans were likely to undergo many of the same challenges already experienced in Europe.

"Government largess on a vast scale was actually one of the main reasons that the European system actually got off the ground," said Victor. "The challenge for the United States now will be to have enough pork to get people to the meal, but not to give away so much that we end up squandering public resources," said Victor.

A question that hangs over the European system -- and that is likely to be of major concern to U.S. policy makers -- is whether the rules still can be tightened up sufficiently so that industries eventually emit less and adopt cleaner technologies.

For Heinz Zourek, the director general for Enterprise and Industry at the European Commission, polluters of all sizes, not just energy- intensive industries, should be seen to be participating in efforts to lower carbon, and to reduce pleading by special interests.

"As long as you treat them badly," said Zourek, referring to different sectors of the economy, "it's better to treat them equally badly."

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