Road to the ‘green’ Europe. The EU Commission adopts the revised Emission Trading System State aid Guidelines.

On 21st September the European Commission adopted new EU Emission Trading System State aid Guidelines, a revised version of the previous ETS Guidelines adopted in 2012, which regulate the carbon dioxide emissions produced by the Member States. The regime will enter into force on 1st January 2021, in the occasion of the new emission trading period lasting until 2030.

These guidelines reconcile both the struggle against climate change through the reduction of CO2 pollution and the protection of specific sectors that can be damaged by strict environmental policies and that thus recur to misleading practices in respect to the EU “green” objectives.

The European Union Greenhouse Gas Emission Trading System (EU ETS), introduced in 2005, is a cornerstone of the European fight against climate change, aiming at gradually reducing CO2 emissions in a cost-effective way. It involves not only EU Member States, but in its second phase it has been extended also to Ireland, Norway and Liechtenstein. The system creates a great carbon market, functioning on the basis of the ‘cap and trade’ principle: the total amount of greenhouse gases emissions of 11,000 heavy energy-using installations and airlines companies operating on the covered territory must be subjected to a cap, that is reduced over time in order to limit progressively the total emissions. Within this cap, companies are given an annual limited number of emissions allowances, that can be exchanged reciprocally: at the end of the year each company has to surrender an allowances number that must cover all its emissions, contrarily it would be subjected to heavy fines.

This system kept functioning in its second phase (2008-2012), coinciding with the Kyoto Protocol first commitment period. The necessity of alignment to certain environmental standards brought the Union to lower the number of allowances to be given to the industries and to progressively replace the free allocation of them with the auctioning method.

The EU ETS is now at the end of its third stage, lasting from 2013 to 2020, during which the mechanism significantly changed. A single EU-wide cap on emissions has been established, replacing the previous system of national caps: the ratio should have been not only to limit a certain quantity of greenhouse emissions in each country within the system, but also to harmonize this reduction among the EU countries. Another novelty in the new phase is the establishment of auctioning as the default method for allocating allowances, instead of free allocation; nevertheless, these free allocation rules could be used for allowances still given for free. Hence, through the years the limitations on the industries’ energy production increased together with the effective costs they had to bear from the implementation of the standards.

This led to the development of the “carbon leakage” phenomenon. Indeed, due to the strict constraints within the ETS system, the huge energy-producer companies, suffering from an annual reduction in output and the high costs, prefer to move their production to countries outside the EU with laxer climate policies. As a consequence, this shift of the production activity gives energy-intensive industries a ‘way out’ from mitigation of greenhouse gas emissions objective.

In order to help these businesses, the so-called Emission Trading System Guidelines were adopted in 2012. They enabled Member States to compensate companies in at-risk sectors for part of the higher electricity prices resulting from the carbon price signals created by the EU ETS (the so-called “indirect emission costs”), thus recurring to the State aid clause covered by the European Treaties.

Within this framework, EU State aid control plays an important role to play in enabling Europe to fulfill its green goals in balance with the economic purposes. The State aid prohibition, enshrined in Article 107, paragraph 1, TFEU imposes a borderline to the national public funding addressed to the economic sectors, in order to guarantee transparency and to protect the free competition principle that regulates the single market. In order to exploit the full benefits of limited public funds, it is crucial that State aid rules continue to be respected.

For this reason, the guidelines set out the specific criteria for State aid measures which will be introduced to balance the changes which will take place following the introduction of the ETS reform in 2013. The State aid measures included funds to electro-intensive industries that suffer from  high electricity prices and free allowances to improve the electricity production towards ‘greener’ standards. The regime provides for the exclusion of certain small installations from the Energy Trading Scheme, if greenhouse gas emission reductions may be achieved outside of the scheme at lower administrative costs.

Following the adoption of 2015 Paris Agreement, the commitment to establish stricter climate protection parameters has become urgent for the EU. The EU Green Deal , signed in 2019, represents the official the roadmap to realize a EU sustainable economy: according to Ursula von der Leyen’s words, the Green Deal is meant to be the European “blueprint to achieve a green transformation, […] the heart of it is our mission to become the first climate-neutral continent by 2050”. Along with the need of achieving sustainability, there was the necessity of revising and strengthening the role of State aid control over the companies’ grants. Indeed, an over-subsidisation of companies by the Member States would risk to counter the price growth introduced by the EU ETS, aimed at promoting a cost-effective decarbonization of the economy, and to create undue distortions of competition within the EU single market. The Impact Assessment, conducted by the Commission on the previous Guidelines and followed by a public consultation with the relevant stakeholders from January to March 2020, proved that their capacity of “preventing carbon leakage while minimizing competition distortions in the internal market […] is difficult to determine”. Hence, this enhanced the need of strengthening and redirecting new guidelines within ETS system.

The revised ETS Guidelines will target only aids directed to sectors at risk of carbon leakage due to high indirect emission costs and their strong exposure to international trade. In particular, these guidelines are articulated in three key elements: eligibility of sectors, compensation and conditionality. Firstly, from the 13 sectors and 7 sub-sectors mentioned in the previous Guidelines, the new framework establishes 10 sectors and 20 sub-sectors to be considered eligible to be at risk of carbon leakage: it deals with specific sectors that are subject to international trade exposure, that are impacted by energy costs or with limited potential for improving their energy efficiency. Furthermore, the new Guidelines set a stable compensation rate of 75% in the new period, reduced from 85% at the beginning of the previous ETS trading period. They also exclude compensation for non-efficient technologies in order to maintain the companies’ incentives for energy efficiency.

Lastly, compensation is made conditional upon additional decarbonization efforts by the companies involved, such as complying with the recommendations of their energy efficiency policies and promoting an increase of sustainable and private investment. The Guidelines also take into account the specificities of small and medium-sized enterprises (SMEs), in line with the SME Strategy for a sustainable and digital Europe, by exempting them from the new conditionality requirement in order to limit their administrative burden.

The ETS Guidelines will be applicable for the fourth trading period lasting from 2021 to 2030, but certain aspects of them will be reviewed half-way through the trading period, such as the CO2 factors and the efficiency benchmarks. The EU Commission will ensure that the Guidelines remain coherent with future legislative changes affecting the functioning of the EU ETS. As for now, according to the Executive Vice-President in charge of competition policy Margrethe Vestager, these Guidelines play a pivotal role in the EU Green Deal implementation. They have laid down the basis for the next EU environmental steps: indeed, the Commission is already in the process of evaluating other State aid guidelines, including the Energy and Environmental Aid Guidelines, in the view of an alignment with further ambitious green and digital goals.