Most of the market focus last week shifted to European Commission President-elect Ursula von der Leyen’s emphasis on the ‘European Green Deal’, which is to be the hallmark policy of the coming five years. Embedded in the deal is a commitment to becoming the world’s first climate-neutral continent by 2050 with an intention to have that agreed in the new Commission’s first 100 days in office. To get on that path for 2050, the deal will involve boosting the EU’s 2030 emissions reduction target from a 40% cut on 1990 emissions to at least a 50% cut. Von der Leyen also said she has asked for a further comprehensive plan to be developed by 2021 to make the EU’s 2030 target even more stringent, at a 55% cut. This raises the possibility that the upward revisions to 2030 targets could happen in stages. As much of the burden for reaching those targets would have to come from the EU ETS, that does suggest a series of policy proposals for adjusting the EU ETS cap and linear reduction factor (LRF) will be needed. We estimate that reaching a full 55% reduction target would require an increase in the LRF from 48.4 Mtpa to around 64.5 Mtpa. To win over the EU countries that objected to the 2050 carbon-neutrality goal earlier this year (Poland, Hungary, Czechia and Estonia), von der Leyen is looking to the ‘Just Transition Fund’, which will funnel funds to coal-dependent areas and help with an economic transition away from industries extracting or using fossil fuels. In addition, von der Leyen mentioned that the imposition of carbon border tariffs (CBTs) will need to be in place to protect EU industry, which will likely be the most difficult of the policy initiatives to agree and implement. Details on how the tax would function were not mentioned, apart from a pledge that the CBTs would be fully compliant with World Trade Organization (WTO) rules. France has long been a proponent of CBTs and Germany is reportedly now more open to the idea. The increasing acceptability of CBTs is likely being seen as a way of shielding industry from the combination of lower free allocation and higher EUA prices that will result from material increases in the LRF. The European Green Deal is unambiguously bullish EUA prices.
|Fig 1: EUA daily moves, €/t||Fig 2: Odds of no-deal Brexit in 2019, %|
|Source: Refinitiv, Energy Aspects||Source: Smarkets, Energy Aspects|
EU price action
Despite the bullish policy signals from von der Leyen, the EUA market is still being held in check by Brexit risk. Last week did see the Supreme Court in the UK confirm a previous decision by a Scottish court that Prime Minister Johnson’s move to suspend parliament was illegal. As a result, the suspension was lifted and the UK parliament returned for some very bad-tempered sessions. The next move could well be a vote of no confidence in the Johnson administration and then a government consisting of a rebel alliance could be put in place to stop a no-deal Brexit on 31 October. If that happens, then a general election would follow, probably after 31 October, and would just keep Brexit uncertainty hanging over the market for another quarter or two. Meanwhile, UK-based package holiday company Thomas Cook went bankrupt, removing an airline operator from the EU ETS although the impact on the EUA market will not be significant. In 2018, Thomas Cook’s aviation emissions net short position was reported as 0.07 Mt. The company will not feature in 2019 emissions compliance and the EUAs it has bought for 2019 compliance will likely be sold back into the market. As most of those who would have been Thomas Cook customers in the future will likely just switch to other providers of holidays, it is unclear whether the total number of flights will significantly decrease in 2020. For the coming weeks, continued expected softness in the European gas markets will continue to reduce emissions due to coal-to-gas switching, unless it gets materially colder than normal. We still expect EUA prices to trade in a range of 24.9-28.7 €/t over the coming weeks, with technical signals likely to still be the key driver. If the chance of a no-deal Brexit on 31 October starts to decrease, von der Leyen’s more bullish European climate policy could start to be felt a bit more and push prices towards the higher end of the band.