Emission Trading System (ETS)

A smooth transition to reduced emissions

A government has 2 options to achieve emission reductions:
  • It can either impose them on its industry (and citizens) which would create a rigid system with little incentive to consider solutions for the individual company.
  • It can apportion emission allowances to each polluting industry. If such a business stays below its emission limit, the owner will earn credits which can be sold. If a business exceeds its limits, the owner will have to buy allowances from others – or take the more costly alternative of paying the penalty.
Emission trading will therefore reward the companies that are quicker to implement clean technologies.

How it works

This market-based system will allow companies to integrate pollution as a cost factor in their business plans and manage technological change in the most cost-effective way. The principle that underlies emissions trading is that, with a given target, the market provides the most efficient way of allocating responsibility for reducing pollution. Unlike a system based on fixed emissions reductions across all firms, trading allows those firms with lower abatement (emission reduction) costs to make deeper cuts and sell their excess reductions to firms for whom the cost of reducing emissions is prohibitively high. While the overall reduction remains the same, companies can plan the cost of achieving it.

While the Kyoto Protocol only allows emissions trading between nations, it has created the framework for a number of local, national and regional trading schemes involving the private sector. Several of these are already operational - in the European Union and its member states and several American states. Many others are currently under discussion.

Basic conditions

WWF generally supports the principle of emission trading – once a set of basic conditions are in place:

  • The existence of clearly defined emission targets and caps (maxima), based on absolute emissions allowances that are established over the medium-term and well publicised to firms, enabling them to plan their investment strategies.
  • Mandatory participation by the sectors covered, to ensure targets are met and there is a balance between buyers and sellers.
  • The existence of rigorous and trusted monitoring and enforcement mechanisms.
  • The existence of a strict compliance regime with automatic penalties.
  • The enforceability of contracts between buying and selling firms.
  • Wide accessibility of information regarding the system, its functioning and the trades that take place.
/ ©: WWF-Canon / Mauri RAUTKARI
The EU Emissions Trading System (ETS) obliges Member States to impose CO2 emissions limits (caps) on large global warming polluters, especially coal-fired power stations.
© WWF-Canon / Mauri RAUTKARI

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Did you know...

A system of tradeable permits based on individual corporate caps to limit emissions was first trialled in the United States. The system was implemented in response to the costs associated with meeting the goals of the US Clean Air Act in the 1970s and 1980s. After continued problems with non-compliance from companies which considered it an excessive economic burden, the trading of emission rights provided a partial solution and increased compliance considerably. Over the last 20 years emissions trading has become a core component of United States’ efforts to reduce air pollution and acid rain caused mainly by NOx and SO2 generated by industry and other large stationary sources of emissions. It is largely seen as having been successful, in terms of both cutting air pollution beyond proposed targets and reducing the cost of meeting these targets.

The Emission Trading System (ETS) of the European Union

The EU greenhouse gas emissions trading directive sets targets and timetables for emission reductions in energy-intensive industry and the power sector, covering around 46% of the EU’s CO2 emissions. It sets Europe on the road to meeting its commitments under the Kyoto Protocol.

Under the Kyoto Protocol, the European Union agreed to reduce its greenhouse gas emissions by 8% below 1990 levels. Subsequently, this target was reallocated internally, so that countries with a greater ability to cut emissions (Germany, Denmark, UK) have taken on tougher targets, while others have been allowed to let their emissions grow. This is known as the ‘EU bubble’: in order to comply with the Kyoto obligation, all Member States and the European Union as a whole must meet these targets.

This has set the stage for the development of Europe-wide policies (in parallel with a number of national initiatives), with the introduction of emissions trading being the first of these.

The main components of the EU ETS are:
  • A mandatory absolute emissions cap on participating firms, covering CO2 and, when accurately measurable the 5 other greenhouse gases.
  • Targets to be set and allowances allocated by national governments on the basis of their Kyoto commitments and European competition rules.
  • A pilot phase to promote early action between 2005 and 2007, and a full operational phase during the 2008-12 Kyoto commitment period.
  • A fine for non-compliance of €100/tonne CO2 emissions (€50 during the pilot phase).
  • Monitoring, reporting and transparency provisions.

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