Australia: The EU ETS - A primer for Australian companies


In our recent legal update we covered the Australian government's announcement of the linking of the Carbon Pricing Mechanism (CPM) with the European Union Emissions Trading Scheme (EU ETS). This update provides further information about the EU ETS and considers how developments within this scheme may impact upon the CPM.

What is linking and what effect will it have?

The idea of "full" or "direct" linking is that allowances or units representing tonnes of carbon dioxide equivalence used in one scheme can be "surrendered" to satisfy compliance obligations of emitters in another scheme. These are EU Allowances or EUAs in the case of the EU ETS and Australian carbon units or ACUs in the case of the CPM. Linking increases liquidity in the emissions market for the linked schemes and broadens the range of opportunities for cost-effective emissions abatement. The practical effect is that if, by way of example, a power station in the EU did not have enough allowances to surrender in respect of its emissions, it could purchase allowances not just from other entities in the EU, but from a linked scheme such as the Australian CPM.

What is proposed?

Full linking is proposed between the EU ETS and CPM. This will be a two-stage process. From 1 July 2015, a "one-way" link will be established, whereby liable entities in Australia will be able to surrender EUAs to fulfil up to 50 per cent of their compliance obligations under the CPM. From 1 July 2018, (subject to a bilateral agreement being completed) EU entities will be able surrender ACUs to fulfil their EU ETS liabilities. In essence, EUAs and ACUs will become fully "fungible", creating a single market for allowances. The Australian Government and the European Commission are aiming to have the bilateral agreement completed by mid-2015.


Many Australian companies will be seeking to understand the likely impact of design of the EU ETS on demand and price drivers in Australia. In many respects, the EU ETS is the CPM's "big brother", with CPM-regulated emissions being roughly the size of those of Germany alone. We have set out below some of the key issues for consideration. Before considering these issues, we provide an overview of key aspects of the EU ETS.

Overview of the EU ETS

Compliance entities

Installations covered under the EU ETS include a broad range of activities, subject to specified thresholds being reached. These sectors and activities include certain combustion installations, oil refineries, production of various metals, cement clinker, lime, glass, ceramic products, mineral wool, gypsum, pulp/paper, carbon black and certain chemicals. Carbon capture and storage facilities are also subject to the EU ETS. Emissions from aircraft operators in respect of flights into and out of the EU have been covered since the beginning of 2012.


The EU ETS is implemented by way of Phases. The first Phase of the Scheme ran from 2005 to 2007. The second and current Phase began in 2008 and ends in 2012. The third Phase of the EU ETS runs from 1 January 2013 to 31 December 2020. A fourth phase will be implemented from 2021. The EU ETS does not have a fixed price mechanism or any price collar.


Under the EU ETS, the cap has been set at 2,039,152,882 EUAs in 2013. This will decrease each year by 1.74% of the average annual total quantity of allowances issued by the Member States in 2008-2012. In absolute terms this means the number of allowances will be reduced annually by 37,435,387. This annual reduction will continue beyond 2020 but may be subject to revision not later than 2025. This figure does not account for aviation, which has a separate cap.

Whether or not the EU's cap will be further tightened, driving up the EUA price (and Australia's price ceiling), is discussed below.

Allocation of allowances

Compliance entities in the EU ETS have historically received free allocation of allowances. It is proposed that industrial sectors will transition to full auctioning of allowances. They will have to purchase 20 per cent of their allowances in 2013, increasing to 70 per cent in 2020 and 100 per cent in 2027. The power sector will not be granted any free allowances in Phase III. Sectors that are identified as being at significant risk of carbon leakage will receive up to 100 per cent of their emission allocation for free.

In Phase III, benchmarks for free allocation have been set based on the average performance of the 10% most efficient installations in a sector or subsector in the EU in the years 2007-2008. It is expected that roughly half of the allowances under the EU ETS will be auctioned, i.e. some one billion allowances per year. 120 million allowances for Phase III are being auctioned in 2012, the year before Phase III starts.

Under Phase III of the EU ETS, there is no limit on banking of EUAs. Entities allocated with any free allowances will receive them more than a year in advance of the surrendering deadline for a year's emissions and can use them for compliance for the current year's emissions or bank them for use in future compliance years.


In the EU, a penalty of EUR 100 is paid for each tonne of carbon dioxide equivalent emitted for which the operator has not surrendered allowances, and the operator must also make up for the unsurrendered allowances (i.e. purchase and surrender allowances to cover the shortfall).

Use of international units

For Phase II, Member States allowed their operators to use significant quantities of CDM and JI project credits for compliance purposes.

The right to use these credits has been extended into Phase III. A limited additional quantity can be used in such a way that the overall use of CDM and JI credits is limited to 50% of the EU-wide emission reductions over the period 2008-2020.

Existing operators will be able to use CERs and ERUs up to a limit which is yet to be determined but which will be a minimum of 11 per cent of their allocation during the period 2008-2012.

New sectors and new entrants in Phase III will have minimum access to CERs and ERUs of 4.5 per cent of their verified emissions during the period 2013-2020 (again, exact limits are yet to be determined). Aircraft operators can use credits for 15 per cent of their surrendering obligation in respect of 2012 and 1.5 per cent thereafter.

From Phase III, all CERs from CDM and JI projects registered before 31 December 2012 (except those from afforestation, reforestation and nuclear projects, or those from projects which destroy the two industrial gases HFC-23 and adipic acid N2O) can still be used. Special rules apply to the approval of large-scale hydro projects.

For CDM projects registered after 31 December 2012, only credits from projects in least developed countries will be allowed to be used in Phase III. It is notable that Australia does not currently impose this restriction on the use of CERs and the Australian Government has not flagged any intention to do so.

In the table at the end of the article we have provided a comparison of the key elements of the EU ETS and the CPM.

Key Issues

The following issues are likely to be important in the context of the linking arrangements.


A particularly important issue will be an assessment of the overall stringency of the CPM and EU ETS and to what extent the effort required by entities regulated under the schemes is comparable. This has perhaps been the greatest design challenge faced by the EU ETS. Before considering the structural changes currently being discussed to enhance the EU ETS price signal, it is worthwhile considering how this has been tackled to date.

The objective of the EU ETS is not only to reduce absolute emissions but also to prompt investment in emission reductions within installations and the development of new low carbon installations. That objective is undermined where there is insufficient scarcity of allowances to underpin a strong price signal because a weak price makes it more difficult to justify these types of investments given the time scales involved for some of these projects. The EU ETS is based upon the allocation of emission allowances in respect of each Phase of the scheme which are less than a baseline of historically verified emissions, thus creating the required level of scarcity.

The impact of the financial crisis in 2008 and attendant recessions within a number of key Western economies, including in Europe, resurrected the question of whether an unfettered market-based scheme can generate a strong long-term carbon price signal. In essence, the decline of economic activity in Europe during Phase II (2008 - 2012) has resulted in significant falls in the price for allowances within the EU ETS (as market participants align the allocation of allowances for the Phase with the lower emissions profile such economic downturn implies). This has occurred despite the steps taken by the European Commission prior to the commencement of Phase II to address the drivers of the price collapse in Phase I. Those included: (i) issuing detailed guidance to Member States outlining the rigour with which it would assess proposed member state caps; and (ii) forcing further reductions on Member States that it considered failed to comply with that guidance.

The core design elements of Phase III were settled by Europe in 2009 with the passage of the amendments to the EU ETS Directive. The key tools they sought to employ to prevent further incidences of reductions in the strength of the EU ETS price signal were the "linear reduction" structure of the Phase III cap, the ability to bank allowances and greater levels of auctioning.

Unfortunately, the depth of the financial crisis and its impact on European industrial activity has resulted in continuing depressed prices for allowances in the EU ETS. The European Commission has commenced a process of legislative reform to address this. These reforms can be separated into near term measures and long term measures.

Near Term Measures - Backloading auction volumes

In late July 2012 the Commission set out how it proposes to amend the timetable for auctioning of EUAs in Phase III. The Commission's proposals set out several options of adjustments that could be made to the amount of EUAs that will be auctioned at certain points during Phase III. The objective is to tackle the potential surplus of EUAs at the beginning of Phase III as the Commission has concluded that the EUA demand and supply balance at the beginning of Phase III is no longer aligned with what was envisaged when the auction profiles were originally decided. In essence, the Commission has decided that unforeseen economic and regulatory changes represent "exceptional changes" which justify it putting forward the adjustment measures.

Although the Commission initially considered pushing forward with delayed auction volumes without seeking amendments to the EU ETS Directive, the Commission has decided to seek formal amendments to the EU ETS Directive and associated auction regulation. This is likely driven by the Commission's painful experience of losing in the European Court of Justice after European Member States such as Poland challenged the Commission over aggressive interpretations of its scope of authority. With evidence that certain European Member States were preparing to challenge the Commission if it pushed ahead, the Commission decided for legal certainty over speed of action.

The Commission proposals are that a given volume of EUAs would be removed from the current auction timetable for 2013, 2014 and 2015 and these EUAs would instead be auctioned in an amount to be divided between 2018, 2019 and 2020. No permanent set-aside of EUAs is currently envisaged in these proposals.

The earliest the backloading proposals are likely to be in place is 2013.

Longer Term Measures - Structural reform

European Commission representatives have acknowledged that backloading is only a temporary measure which may not do enough to prop up a strong carbon price in Europe. As such, they are due to release a report later this year on more permanent measures to address over-supply in Phase III. Little detail is available at this point but the likely options that will be consulted on are:

  • Permanent removal of the auction volumes that are delayed under the near term actions discussed above;
  • Revision of the linear reduction factor of 1.74 per cent that is currently specified in the EU ETS so as to reduce volumes to be allocated across the Phase (for instance, adjusting this to 2.2 to 2.4 per cent);
  • Increase demand in the EU ETS by extending the scope to other parts of the economy such as residential or transport sectors (although there are existing measures that would need to be considered in these sectors that are already seeking to reduce emissions); or
  • Agreement to increase the ambition of the EU from a 20 per cent target to a 30 per cent target (as has been offered by the EU under international climate change negotiations).

The timing of such fundamental changes is currently unclear and depends in large part on the political dynamics of a stressed Eurozone. In light of that, the period for discussion and implementation of such measures could occur in 2013 but could also be envisaged extending through until 2015.


Another fundamental design characteristic is the extent to which schemes continue to allow cost containment by way of the use of "offsets" (being credits imported into the scheme from emissions reduction projects outside of the relevant cap). This issue relates both to the nature and type of offsets permitted for use and also to the extent to which they can be used. Australia appears broadly to have mirrored the EU's offset criteria. This is to be welcomed from the point of view of linking.

However, it will be interesting to see whether Australia eventually follows the EU in implementing requirements in respect of the use of the CERs coming only from Least Developed Countries for CDM projects registered from 2013. We also note that unless the current provisions are changed, Australia risks becoming a "dumping ground" for CDM projects registered after 2012 whose credits are not eligible under the EU ETS. The implications of this would need to be assessed in terms of linking the two schemes. It also remains to be seen whether the EU seeks to impose further restrictions on the use of different kinds of offsets.


Perhaps of paramount concern will be the extent to which respective regulators trust each other to adequately guide schemes through the inevitable turbulence of the carbon markets.

Faced with uncertainties about the ongoing international negotiations, the legal nature of domestic targets going forward and the offset pipeline, schemes will have to be robustly managed to ensure that they respond to surrounding policy uncertainty and attract investor confidence. Issues such as registry security and fraud which have dogged the EU ETS are likely to continue to niggle at the edges of emissions trading schemes. Each jurisdiction will have to ensure that it trusts the other to properly respond to such challenges. It may be difficult for the schemes to interact if there are greater levels of policy uncertainty and risk on one side.


Another technical aspect of emissions trading implementation relates to the registries architecture. For schemes to link there will inevitably require to be a certain degree of connectivity between different registries. Registries rules and practices may be different between jurisdictions. However, we do not believe that such regimes would necessarily require to be fully harmonised in order for two systems to link. We note though that the EU's system of registries is becoming ever more complicated. This is partly in response to relevant security breaches. Recent changes have included factors such as movement to a single registry, enhanced security measures and improved "know your client" requirements.


How smoothly the EU - Australia link will be implemented and whether or not it will help lead to a significant rejuvenation of the carbon markets remains to be seen. To date, significant concern has focussed around the dangers of increasingly fragmented carbon markets, in light of the limited international progress with respect to negotiating a fully fledged post-2012 climate agreement. The linking of the EU ETS and the CPM is likely to serve as a useful blueprint for how linking can be done. Nonetheless, the idea of an integrated OECD-wide carbon trading system, which was mooted in 2009 to be possible by 2015, still seems a long way off.

CPM and EU ETS comparison chart

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

Elisa de Wit
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions