European CO2-emissions

What to make of soaring CO2-prices?

Hans van Cleef - 3 May 2021

Recently the price of the EU ETS (Emissions Trading System) reached another record high. The emission rights traded under the EU ETS rose to EUR 40.64 per tonne of CO2.

About the author

Mr Hans van Cleef
Hans van Cleef is Senior Energy Economist with ABN AMRO. In this role he covers for the bank the energy market in its broadest sense and gives regular updates (especially oil and gas related, but also wind, solar and the carbon market).
Therefore, the rise that had already started in early March 2020 has continued. In that year, the main support came from the then (still to be approved) plans to reduce European CO2-emissions by 55 per cent compared to 1990, instead of 40 per cent by 2030. The recent support for the price came mainly from the cold weather and market speculation.

Due to the low temperatures in February, we have burned more gas and used more electricity to heat our homes, among other things. 

This is driving up the demand for emission allowances. Coal and gas plants were running at full capacity to meet demand. Especially during twilight hours, or on days when there's little, or no wind and the sun is not shining sufficiently, the need for this traditionally generated form of electricity is high. When energy companies emit more CO2, they have to hand in extra emission allowances to compensate for these carbon emissions. If they no longer have these emission rights on the shelf, they have to buy additional market rights.

So, is the recent rapid rise in the CO2-price beneficial or not? The benefits are clear. A higher price for EU ETS allowances provides an incentive for companies to become more sustainable. And since this applies to all companies within Europe, a higher price will not be at the expense of a competitive position (unless you compare it to companies outside Europe). 

Especially now (in mid-February 2021, ed.) that the EU ETS price is higher than the national CO2 tax, the competitive position of Dutch companies remains equal to those in neighbouring countries. Another advantage of the higher price is that it increases the belief in the functioning of the instrument. 

For years, the EU ETS price has fluctuated around EUR 5/tonne. This was, according to some, far too low to call it an effective instrument and to speed up carbon reductions. Now that the price is eight times higher, the pressure increases on most CO2-emitting companies to undertake action. After all, they need these emission rights and would otherwise pay more and more. As a result, confidence in the instrument is rising.

However, the increase in market speculation also increases the likelihood of profit-taking. The number of CO2-emission allowances in circulation will decrease more and more in the coming decades. At the same time, market speculation will increase. 

The possible consequence is ever-increasing volatility and large price movements: upwards but also downwards. Sharp price decreases are regularly followed by outrage from policymakers who argue for an (even) higher carbon price or an instrument with a stable price development. 

Unlike most companies that know the market risks and know how to deal with them, some policymakers do not always cope well with these market forces. If they go in the 'wrong direction', these price movements can undermine confidence in the EU ETS once again.

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