Energy Prices and Emissions Trading: Windfall Profits from Grandfathering?

Edwin Woerdman, Oscar Couwenberg, Andries Nentjes
2009 Social Science Research Network  
The greenhouse gas emissions trading scheme in the European Union primarily uses grandfathering until 2012, which means that polluters get emission rights free of charge based on their historical emissions. Energy consumers accuse energy producers of making windfall profits by incorporating the market value of those free rights into the energy prices. However, we develop a numerical example to illustrate that the reasoning of the producers is correct. We also explain why this market value is
more » ... market value is only partly passed on to consumers. We consider various measures and conclude that only auctioning the rights after 2012 nullifies the additional profits. JEL Classification In 2003, the European Union (EU) adopted Directive 2003/87/EC on greenhouse gas emissions trading. This market started in 2005. The Directive requires that governments allocate the emission rights free of charge. This means that polluters do not have to buy their emission rights, or allowances, in an auction. Instead the allowances are allocated free of charge to polluters, based on their historical emissions. This way of allocating is called grandfathering. Article 10 of the Directive specifies that for the period 2005-2007 at least 95% of the allowances should be handed out for free and at least 90% for the current period 2008-2012.
doi:10.2139/ssrn.1268230 fatcat:33rohfceszas3mmbmjofrdluam