Emission trading is a type of market with the purpose to lower greenhouse gas emissions. It started growing bigger with the Kyoto protocol, the first international agreement to fight climate change. Emission trading was created as a way to support the economy in the transition to a sustainable society.
Mainly, it works by trading CO2 (but it can also trade other polluting emissions). For example, all nations that signed the Kyoto protocol were given a specific amount of “allowed emissions”. These allowed emissions are like a commodity that can be traded. As all countries have their share of emission rights, they can buy and sell them to each other. Creating a carbon market.
Emissions trading today
As mentioned, trading with CO2 emissions became a global phenomenon with the Kyoto protocol. It was signed in 1997 and aimed to limit the emissions of 38 industrialized countries. Before that, similar systems had been introduced in the US, to reduce air emissions. Today, carbon is being traded like any other commodity in the so-called carbon markets. Other greenhouse gas emissions, such as nitrous oxide, are also traded.
There are huge emission trading systems (ETS) all over the world. The largest market is China. However, the nation is also the largest polluter of GHG emissions. More so, the EU has a very big carbon market. Up until recently, it was the largest one in the world.
Emissions market in the EU
The market in the EU is known as EU ETS. It is a very central and important tool for reducing emissions. The union started trading with carbon in 2005. Which makes it the world’s first major carbon market. The European Union also trades with other polluting gases. Currently, it affects about 40 % of all greenhouse gas emissions in the region. More so, the EU ETS is used as a prototype for other systems.
The EU ETS works with the “cap and trade” principle. A cap, meaning a limit of greenhouse gases, is set. This cap is reduced over time so emissions are forced down. Within this cap, there are emission allowances. These are known as European Union Allowances – EUAs. For example, each EUA gives the right to emit 1 ton of CO2. They are distributed amongst different sectors. Such as the aviation industry and energy production. Other areas are the iron and steel industry. Then, these industries are free to trade the EUAs with one another. If a company emits over their allowances they are fined.
More so, it is also possible to buy an allowance and then cancel it. This reduces the number of allowances on the market. Which increases the price of the remaining ones. A higher price of the EUAs can lead to a situation where companies buy less. Instead, it might be cheaper to lower their emissions. Furthermore, the EU trades allowances outside of the union, for example with Iceland and Norway.
Criticism of the EU’s system
The EU trading system has been heavily criticised. Mainly, because the EUAs have been sold at a cheap price. In fact, it used to be around 7 euros per EUA. Like any market, the prices change each day depending on supply and demand. In 2017, the prices became much higher. Which had a positive effect on Europe’s total emissions. In 2021, they were 39.9 euros/ton of emissions.