Free allowances

Harm to competiveness Somewhat. Regulations increase the cost of manufacturing, but, unlike taxes of tradable permits, do not raise the price of fossil energy Yes, though if other taxes are reduced through revenue recycling, competitiveness of the broader economy can be improved Yes (as with a tax), but giving firms free allowances offsets potentially harmful effects on profitability... 

Free allocation can distort incentives. If installations cease to receive free allowances when they close, the withdrawal of over-compensation creates a perverse incentive to keep inefficient facilities operational. 

If the objective of free allocation is to compensate existing assets for the impact of new regulation, it should not be required for new entrants. In practice, most governments set aside free new entrant reserves , which economically amount to an investment subsidy. If the volume were unlimited, such subsidies might reduce the product price - which may be part of the aim, but is not actually achieved." Governments use NERs to help support new construction, but giving free allowances in proportion to the carbon intensity of new plants, can bias the incentive towards more carbon-intensive investments (Neuhoff et al., this issue). When projected forwards, such distortions are amplified by the multi-period nature of the EU ETS, to which we now turn. 

All these effects are created by the expectations about allocation for the period post-2012. Committing to less distortionary methods would reduce adverse impacts, and starting to use such approaches during phase II would make this more credible. All distortions can be reduced if governments credibly commit to reducing the free allowance allocation related to historic data or existence of installation. 

Allocating allowances for the period 2008-2012 to existing facilities based on historic emissions does not in itself create any adverse incentives. However, if companies expect that the allocation for the period post-2012 will be based on their emissions in the coming years, then this distorts their operational and investment decisions - for example, deterring early action. If free allowance... 

We assess the economic incentives and their impacts resulting from allocation to new projects of power generators. All Member States have made provisions that guarantee a certain volume of free allowances to new entrants for a defined period. Section 3.1 uses a simple analytic model to illustrate the impact of a uniform allocation of C02 allowances to all new projects, Section 3.2... 

Overall, an allocation based on a purely uniform benchmark creates the fewest distortions for both incumbents and new entrants. A similar approach for both facilities would increase transparency and avoid difficulties in defining what a new entrant is, relative to an existing facility (Entec and NERA, 2005). However, this does not suggest that it is desirable from an equity perspective, as power generators might receive free allowances above the level they require to cover any additional costs from the emission trading scheme. 

It is essential to disentangle these two effects since, as we shall see, different allocation criteria would impact them in completely different - and often opposite - ways. Hence, in the present article, we analyse two contrasting allocation methods. In the former, labelled grandfathering (GF), the number of free allowances a firm gets is independent of its current behaviour. As we demonstrate later, this assumption applies well to the US S02 trading system, but much less to the EU ETS. 

Third, implementing output-based allocation in the cement sector raises a difficult dilemma, due to the fact that 90% of cement emissions occur during the production of cement s main input, clinker, and that lowering the proportion of clinker in cement is one of the main means of cutting C02 emissions. If allowances are allocated in proportion to cement production, a producer may import clinker to make cement in Europe in order to receive free allowances and sell them. Leakage would then not be addressed. Alternatively, if allowances are allocated in proportion to clinker production, the incentive to reduce the clinker rate in cement vanishes, and so does a large part of C02 abatement. This problem is not taken into account in our simulations, since we model only trade in cement, not in clinker. 

Could we allocate free allowances to industrial consumers in sectors with large... 

However, many participating sectors, such as the electricity sector, are not directly exposed to foreign competition, so competitiveness concerns are not directly relevant. Exceptions may apply to closure and investment decisions, which are affected by the allocation of free allowances - as illustrated at the example of the power sector in Neuhoff et al. (this issue). Furthermore, although downstream industries are affected by increased electricity prices, it should be remembered that the electricity price increases they face should not differ much under grandfathering or auctioning. 

The need for lobbying may exacerbate the dynamic incentive effects discussed in Section 2.5 if firms make inefficient investment decisions to improve their bargaining position for free allowances. 

The monoanions of /3-dicarbonyl compounds also form organometallic species, usually involving the central carbon atom in the M-C bond (14). Such species are known for a number of metals, particularly those of the platinum group. This mode of binding leaves the two carbonyl oxygen atoms free, allowing the formation of bimetalhc species (15). ry -Allylic (16) and terminal (17) carbon bonding have also been observed. 

The periodic nature of the allocation in the EU scheme may have simplified the process in the sense that the distributional stakes were lower with sharing out allowances for three years rather than for a longer period or on a permanent basis. The fact that a new round would take place may also have helped to overcome some of the technical issues, as any solution that was adopted could be road-tested and, if considered necessary, changed after a few years. The downside of periodic allocation is that companies may adopt strategic behaviour in order to maximise the number of free allowances to be allocated in future rounds rather than being guided by the invisible hand to the cost-minimum outcome in terms of emissions abatement. 

New plants should be allocated free allowances up to 2012, like the older plants. 

The scarcity of allowances expressed by a 15% reduction compared to BAU was received with mixed emotions by various stakeholders. It was not surprising that some green organisations expressed the view that there were too many free allowances in the NAP. Neither was it surprising that some stakeholder organisations felt that their sector in particular was given too few allowances. 

It was finally concluded that, with the exception of the power sector, benchmarking allocation to existing installations would not be feasible for the first period (2005-2007). Thus, free allowances to existing installations ended up as a mix of benchmarking and grandfathering. 

There are a number of reasons for this. A potentially sound reason lies in the fact that some European companies compete with companies outside the EU. A less sound reason is that if one Member State supplies free allowances to new entrants, all other Member States will be compelled to do the same, to avoid distortion of incentives across Member States to establish new power plants and new industrial facilities. After playing hide-and-seek for some time, all Member States chose to have a new entrants reserve. 

Free allocations to new entrants might influence investment incentives. This can happen in two ways (a) by speeding up investments compared to what would be optimal without free allowances, and (b) by distorting the investment choice between technologies. Though the total CO2 caps remain unchanged, the total socio-economic cost involved in complying with the caps could increase. 

New entrants do not receive free allowances for light processes and space heating the value of the carbon tax reduction was considered sufficient. 

Free allocations to new entrants may also distort competition between Member States by giving different investment incentives in different Member States. In the electricity sector, this could have a serious effect on security of supply in some Member States. As an example, a comparison of the first NAP versions showed that a new power plant would get more free allowances in Germany and Finland than in Denmark - and fewer in Sweden than in Denmark. This is a point of great concern in the Danish power sector. The Association of Danish Energy Companies has estimated that a new gas-fired combined cycle plant in Denmark receives only around 80% of the free allowances it would receive in Germany and Finland. A Danish coal-fired power plant receives only half of the allowances it would receive in Germany and Finland. For both types of plant, a Swedish power plant receives even fewer allowances. 

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