Written by Caroline Haywood, Four Green Steps

On 28 August 2012, Australia and the European Union (EU) announced that they would link their emissions trading schemes; the first time two major separate emissions trading schemes will be linked. But what is all the fuss about?

Linking emissions trading schemes allows participants in one country’s scheme to use emission allowances from the other to meet emission reduction targets. Regarding the Europe-Australia link, Australian emitters will be able to use EU allowances to cover Australian emissions from July 2015 and from 2018, European companies will also be able to use Australian allowances to meet their emission reduction targets. Therefore, linking provides more opportunities to reduce emissions and to invest in the lowest cost solutions in both countries, before moving on to more expensive options domestically.

The European-Australian announcement has been met with enthusiasm by the Australian Greens party, The Climate Institute of Australia[1] and the International Emissions Trading Association (IETA). “IETA members - and economists worldwide - have advocated the potential cost-savings benefits of linking for over a decade,” said Dirk Forrister, President and CEO of IETA. “… we are extremely pleased with this news –even as we continue studying the details.” And the devil is indeed in those details, which this article will critically consider. Emissions trading schemes should only link together if their differences in design do not hinder, but rather enhance the environmental effectiveness and the cost efficiency of both. The big question when linking schemes is what will the link mean for the carbon price produced by the market-based mechanism. Limited emission allowances – ensured by a strict ‘cap’ or limit on total emissions – produces a carbon price. Greater flexibility in emission reduction options, caused by linking, may lead to an influx in carbon allowances, causing the price to drop. The carbon price however must remain high enough to modify the behaviour of carbon-constrained polluting entities.

To facilitate linking, the Australian government has made two changes to the design of its scheme that will impact the carbon price. Firstly, the Australian government will remove the “price floor”, which is the minimum Australian carbon price ($AUD15 per tonne of carbon). Carbon allowances in the EU are currently trading around $AUD10 a tonne, due to a surplus of allowances in the European market, which is considered too low to motivate significant change in the behaviour of greenhouse gas emitters. However, it’s a problem that should resolve itself, as the carbon market matures and if less carbon allowances are allocated within the EU, as is planned.

Secondly, the linkage will allow Australian participants to use 37.5% of European allowances and emission reductions achieved through Clean Development Mechanism (CDM) projects to make up 12.5% of participant’s emission reductions. Initially, Australia companies were able to meet up to 50% of their emission reduction requirements through CDM allowances. Carbon allowances from CDM projects are cheaper than domestic reductions – at the moment, international carbon allowances are only $AUD3.60 per tonne. Compelling Australian participants to buy European allowances or to reduce a majority of greenhouse gas emissions domestically should ensure that a high carbon price is maintained.

Therefore, as long as the EU’s emissions trading scheme can be tightened to reduce the surplus of carbon allowances resulting in low carbon prices in Europe, the linkage should result in greater stringency in the Australian scheme, and greater flexibility for participants in both, leading to cost effective emission reductions for all participants.

Against the backdrop of failing UN climate negotiations, the linking of the European and Australian cap-and-trade schemes injects new life into international cooperation on climate change mitigation. Given the proliferation of emissions trading schemes in other countries - New Zealand, Switzerland, the north-eastern US states, California and Quebec - this bilateral agreement may signal the beginning of a truly global emissions trading scheme.

[1] Erwin Jackson, Cautious welcome for linking Australia’s carbon price to EU, 28 August 2012,

Image courtesy of Creative Commons.

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