The free allocations of EUAs to district heating and high efficiency cogeneration in the third trading period will be decreased by way of four different legal measures. The Directive 2009/29/EC thus treats CHP more favorable than electricity generators (which, with exception provided for in Article 10c, receive no free allocation at all) but place them in the much less advantageous position than sectors exposed to “carbon leakage”.
Taking into account that CHP and district heating and cooling in some Member States are obliged to apply prices included in regulated tariffs, it seems natural that national regulators, when approving the said tariffs, should take into consideration the costs of the acquisition of CO2 credits. The detailed extent of the inclusion of these costs into the tariff is yet contentious and, as regards the particulars of the evaluation of that cost, there are many details to be explored.
The regulatory uncertainty in that regard may negatively influence on any investment plans.
The free allocation of allowances to district heating and high efficiency cogeneration installations, pursuant to Art. 10a (4) of the amended Directive, is subject to a special rules.
The said free allocations will be constrained by:
1) the linear factor 1,74% (referred to in Art. 9) applied in each year subsequent to 2013,
2) benchmarks (see Art. 10a (1) and (2) of the Directive),
3) additional restriction stemming from the literal wording of the Art. 10a (4) of the Directive providing for free allocations in respect of the production of heating or cooling “for economically justifiable demand only”,
4) and, the last but not least, the express quantitative cap provided for in the Art. 10a (11) of the Directive according to which the free allocation of allowances to district heating and high efficiency cogeneration installations will start at 80% in 2013, decreasing progressively each year and resulting in 30% free allocation in 2020 and full auctioning in 2027.
As a result of the said constrictions many (if not all) installations in the sectors of CHP and district heating and cooling will be forced to buy allowances in the phase III and the mere modernisation of the production processes will in many cases not be sufficient. The theoretical possibility of decreasing of production (affordable in other sectors) as regards public utilities is also rather restricted.
So, if the sector of CHP and district heating and cooling have in the phase III a small chance to avoid acquisitions of carbon allowances on the market - no matter, primary (auctions) or secondary one - lets analyse in more detail, whether and, if need be, how, the costs of these acquisitions should be reflected in the tariff.
Some may say (and some national regulators do so) that the purpose of the legal framework of the Directive is to create incentives to emissions abatement, and allowing to transfer into the regulated tariff all the costs of acquisition of carbon allowances creates no such incentive. As a consequence of such a position these regulators point out that only the costs of physical modernisations of installations should be allowed to be included in the tariff. There are many arguments against such a assertion. It isn’t the purpose of this article to enumerate all of them, let’s mention only that if the conception was correct, the EUETS would be needless.
But apart from the justified, as it seems, view indicating the general possibility of the said costs to be accounted for in the tariff, there are in that regard many other detailed questions to consider. Some of them are as follows:
1. Firstly – for the purposes of tariffs the CO2 allowances can be accounted for either within the entire period of 5 years or separately - within each year of the said period. The issue is vital, because the operator of an installation may have in a given year a surplus of allowances over factual emissions and in the other year the shortage.
When the tariff is established by the entity and approved by the regulator on a yearly basis it would be questionable whether the prognosis for the settlement of allowances for the entire five-year period should be taken into account. The opposite option is to take the prognosis only for the following one year or for the previous year.
Another point influencing the issue are the book-keeping rules adopted in the given entity.
2. The second general point that one can bring into question is whether operators of the said installations are obliged to exploit the flexible mechanisms foreseen by the scheme - for instance, whether the CER and ERU limit (provided for in the NAP in phase II) is to be used cumulatively (100 %) in 2012 or only 20 % of the entire limit in each separate year of the five-year settlement period (or in other manner - there are obviously in that regard some other combinations also possible).
The general doubt is whether the entities should be constricted by the regulators in their market strategies as regards managing CO2 allowances, and - if the answer was yes - to what extent it would be.
3. Thirdly – the regulator may theoretically to adopt a position that the installation should actively manage with their allocations i.e. to trade in them in order to achieve proceeds – instead of simply storing the allowances in the account in the registry till the 30 April of each year. As a consequence, the proceeds - real or possible to achieve pursuant to the current market conditions – would be accounted for in the accounts presented to the regulator with application to approve the tariff.
It is debatable whether the regulator is entitled to such an approach, but the allowances that are simply stored in the account by the operator for one year (or even five years – till the end of phase) can be compared to a monetary deposit with a bank without any interest accrued - and the latter situation can’t be regarded as a proper market practice.
The aforementioned problems arise only in jurisdictions, where CHP and district heating and cooling are subject to regulated tariffs, but there are some Member States where such a regulatory model exists.