Summary of The Future of UK Carbon Pricing

Summary of The Future of UK Carbon Pricing

Earlier this week, the UK Government issued The Future of UK Carbon Pricing which focuses on a UK Emissions Trading System (UK ETS), to replace the EU ETS, now we have left the EU. We thought it would be helpful to summarise its key points.

Mandatory reporting of greenhouse gases in the UK could take the following forms:

1) Remain part of the EU ETS

2) A standalone UK ETS

3) A UK ETS which is linked with the EU ETS for trading purposes

4) A carbon tax

Under all scenarios, monitoring, reporting and verification (MRV) of greenhouse gases will continue. To maintain compatibility, the rules for MRV will mirror those of the EU ETS, with a few minor changes.  

It is thought that remaining part of the EU ETS is unlikely, therefore the publication released this week explains the details for a standalone UK ETS which, it is hoped, could be linked to the EU ETS in the future.  The Government wants to ensure a smooth transition between EU ETS, which will cease on 31/12/2020, and the UK ETS which would then begin on the 01/01/2021. 

The use of a carbon tax is a contingency measure should the UK government be unable to enact iUK ETS in the necessary timeframe.  If a carbon tax were initiated, it would still only apply to installations which meet the inclusion criteria for the current EU ETS. 

Main changes for a UK ETS

The main change between the planned Phase IV of the EU ETS and the so-called Phase I of the UK ETS is the rate at which the cap will reduce. Previously, a linear reduction factor (LRF) of 2.2% was applied, however, to meet the UKs commitment to reach Net Zero Carbon by 2050, an LRF of 5% has been introduced.  The mechanism would be established gradually, meaning that installations level of free allocation in year 1 (2021) will still be based on the results of the NIMs exercise which was completed during 2019.  The annual reduction is anticipated to steepen as of January 2024.  More information about this is due to be released at the 6th Carbon Budget in December.  It is worth noting that although the EU LRF is set to 2.2%, if the UK were to remain within EU ETS, they would likely set a more ambitious LRF anyway.

A new Registry Account system is being built, ready to launch by January 2021.  There are plans to make interacting with the registry account simpler.

For MRV, there is an intention to reduce the frequency of tier improvement reports and the ability to aggregate multiple source streams adding up to ≤10t CO2e.  Operators should however consider that the verifier will likely still require evidence that the threshold has not been breached.

The method of calculating civil penalties for opt-out installations (Article 27 installations- see below) breaching emissions targets will remain the same as it currently is, as of year 2 of the UK ETS.  The civil penalty rate for year 1 will be calculated using the average UKA auction clearing price between 01/01/2021 and 11/11/2021, therefore Operators will not be able to accurately forward budget during this year for any excess emissions.

A Cost Containment Mechanism (CCM) and a Supply Adjustment Mechanism (SAM) have been designed to allow the Government to intervene to maintain market stability if necessary, in a standalone UK ETS.

Similarities

Free allocation mechanisms will remain the same, including addressing the risk of carbon leakage.  The opportunity for New Entrants to the scheme to apply for a level of free allocation will also remain.

Benchmarks which were established for the Phase IV baseline exercise will continue to be used in Phase I of the UK ETS to enable sufficient data sets to be available to calculate activity level in association with free allocation.

The UK opted to offer the Article 27 and Article 27a schemes.  Eligibility for the Article 27 scheme (Small emitter and Hospital opt-out scheme < 25 000tCO2 and <35MWth) has remained the same, as have the simplified reporting regulations.  The introduction of the Article 27a scheme (Ultra low emitters <2 500tCO2) will continue, with formal reporting obligations for Article 27a installations removed.

Opting out of the main scheme and into Article 27 and 27a is still only possible at the start of an allocation period.  Installations will therefore be offered the option again in 2025, if they failed to opt out in time for 2021.

What will it mean for you?

Full Participants:  It is likely that you will notice little administrative change for annual emissions reporting.  

Regardless of the outcome, the additional obligations for formalised annual activity level reporting will still be introduced as of 2021.  Exactly what form this will take is currently under determination.  Currently, no further information has been circulated regarding activity level reporting for 2019 and 2020, operators should anticipate this over the coming months.  

It is important that you continue to complete the review of your Monitoring Methodology Plan, which the UKs Competent Authorities are currently returning to Operators for additional information.  Financially, you should consider what the steeper reduction of your level of free allocation could mean and plan accordingly.

Opt-out installations: The Future of Carbon Pricing report does not make clear if the linear reduction factor of targets will be reduced at the same rate as the level of free allocation provided to some full participants.  It would be prudent to consider this steeper reduction of your target as a possibility when budgeting.  Further, as the civil penalty rate for 2021 won’t be published until late in the year, you should keep an eye on the cost of allowances throughout the year to allow you to plan for any exceedance of your target.

All installations should expect further information from their Competent Authority over the coming months, in preparation for the potential UK ETS Phase I which would begin on 01/01/2021. 

In the meantime, if you need any assistance interpreting what the changes could mean for your installation or have any questions about EU ETS, please do not hesitate to get in touch with the Swan Energy team. 

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