The EU ETS – problems in the construction and transformation from Phase 1-4

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2020

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Humphries, Christopher

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Abstract

21 years ago, the Kyoto Protocol created the backbone for market mechanisms to counteract pollution through the creation of an economic incentive for carbon abatement. The European Union Emissions Trading System (EU ETS) was introduced in 2005 as Europe’s “cornerstone” emissions abatement tool. The EU ETS is the largest ETS worldwide, covering 45% of EU emissions across 31 EU member states. It operates as a cap-and-trade system where pollution caps are assigned to EU member states which are then subsequently traded in order to meet emissions obligations. Putting a price on carbon is fundamental to the EU ETS in order to encourage investment in new technologies and move away from business as usual carbon intense business models. However, the EU ETS has failed extensively in this regard. The EU ETS was meant to drive efficiency and cost effectiveness however, it has created an incentive for pollution as polluters receive carbon allowances for free, which are then sold and traded. Windfall profits from free allocation, carousel VAT fraud from a lack of policy synergy, and a focus on a true free market mechanism have been massive failures for the EU ETS. Therefore, many EU member states are pursuing more sovereign emissions policy controls to help stimulate carbon allowance prices, trade, and carbon abatement. The ETS has transformed significantly since piloting in phase 1 to the introduction of various policies and institutional interventions to stimulate effective market functioning in phase 4. The introduction of the market stability reserve (MSR) as a pure quantity based economic control mechanism as well as further fiscal intervention of price collars acknowledges that the market would fail without intervention. The EU ETS has had to develop through each phase in order to meet its own emissions reduction goals. Emissions trading systems across the world can learn from the EU ETS by making adaptations that move away from a true free market approach of controlling emissions. This thesis has shown that across the four phases, EU ETS has continuously made institutional changes in the carbon market to try to address challenges in the previous round. However, analysis of the EU ETS through a framework that combines Polanyi's understanding of the production of markets and creation of fictitious commodities, with current literature on the commodification of nature is key. It reveals that due to the inherent challenges in commodifying and creating a market for carbon as a fictitious commodity, it is unlikely that institutional changes will be able to achieve the stated goal of reducing carbon emissions.

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A research report submitted in fulfilment of the requirement for the degree of Master of Science to the School of Geography, Archaeology and Environmental Studies Faculty of Science, University of the Witwatersrand, Johannesburg, 2020

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