Carbon market looks to Germany for price boost plan

Fri Jan 11, 2013 5:31am EST

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By Nina Chestney and Barbara Lewis

LONDON/BRUSSELS, Jan 11 (Reuters) - The future of the European Union's emissions trading scheme, meant to be a cornerstone of the bloc's climate policy, is in the balance this year as traders look to Germany to back a plan to boost low prices.

Launched in 2005, the EU Emissions Trading Scheme (ETS) has been beset by problems ranging from overestimating the number of permits required by Europe's industry, to fraud, to a glut of permits generated by low demand during recession.

As a result, EU carbon prices have lost more than 60 percent of their value since May 2011 and hit record lows below 6 euros in December.

Traders have hoped a European Commission proposal to remove temporarily some of the surplus would boost prices.

But agreement on the proposal, known as backloading, is uncertain because of outright opposition from coal-intensive Poland and indecision from dominant EU power Germany.

A disagreement between Germany's environment and economy ministries on the plan means the nation has yet to take a formal position on backloading and could abstain from a vote by member states, expected to take place in February.

The economy ministry, concerned about anything that will increase costs for industry is against the proposal, while the environment ministry has voiced support for the carbon market.

An abstention could be disastrous for the carbon market as the EU's majority voting system needs the bloc's biggest country's say, especially given the hostility of Poland, which also has a significant number of votes.

"If Germany, and of course the UK, give their green light, it should not take long to have all adopted and in place at the earliest this year. Both countries hold the key for the deal," said an EU official who did not want to be named.

Carbon traders will closely follow a German local election on Jan. 20, which could lead to a change of economy minister and unlock the indecision.

A more sympathetic successor could mean Germany votes in favour of the plan, but this is not a given and carbon analysts say the probability of German support would only be around 50 percent.

GROUNDHOG YEAR?

Germany may slide into an abstention as it focuses on federal elections later in the year, at which Chancellor Angela Merkel will seek another term of office.

"The Germans may simply decide to hold off until their federal elections are complete at the end of October before making a decision on backloading," said Matthew Gray, carbon analyst at Jefferies Bache.

"Given backloading may not commence earlier than the fourth quarter, 2013 could, at best, be a groundhog year (year of stagnation) for EU allowances. At worst, the proposal will fail and prices will collapse, potentially to 3 euros."

Others say Merkel could step in to break the deadlock.

"It might well come down to Merkel wading in. With the carbon price where it is now, the German energy transition just won't work. They need a higher carbon price," said Tom Brookes, director at the European Climate Foundation, said.

"Germany will vote for backloading in the end because I don't think there is anybody who doesn't think some structural change to the ETS is required."

However, Merkel famously refrains from decisions on EU policy until the very last minute - a tendency likely to be exaggerated in an election year.

She is caught between the twin pressures of needing to finance a green energy transition as Germany winds up its nuclear industry and a powerful industry lobby resistant to paying more for its fuel.

Countries such as Britain, France and Germany could expect a 59 percent increase in carbon revenue for the years 2013-2015, according to an internal Commission paper seen by Reuters.

Germany in particular needs that income if it is to accomplish a shift away from nuclear power by increasing its share of renewables.

Poland is among the nations that would not get any revenue increase because it has been given permission to allocate many carbon allowances for free under EU state aid law.

Behind the scenes, efforts are being made to forge a compromise. Without backloading in place, it could be extremely difficult to muster political will to implement deeper and more permanent structural reform of the market.

"I think there has to be a pragmatic way in which everybody can agree an interest in putting a floor on the price of carbon, so the ETS will be able to survive," Phil Hogan, Environment Minister for Ireland which holds the EU Presidency, told Reuters.

The Commission does not intend to modify its proposal, a Commission spokesman said. (Editing by Keiron Henderson)

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