The Rapidly Growing Carbon Market

Europe Driving the Market for Carbon Emission

Established in 2005, EU-ETS is an independent system of the European Union (EU). During the first 2005-2007 period, emission allowances were allocated for over 10,000 large-scale CO2 emitting sources within member states such as power plants and boilers, and emission reduction became obligatory. The price for emission trading during the first period at one point surpassed 30 euros per CO2 ton, but eventually fell below 0.1 euro per ton by the end of the period as emission reductions exceeded expectations and oversupply was expected.

The settlement price of emission futures has been comparatively stable since the start of the second period in 2008. A 15 euros per CO2 ton price range has been maintained since the first period the price began to drop in autumn of 2006, and has generally transitioned at more than 20 euros per CO2 ton since May 2007. Futures settlements in 2012, the last year of the second period, are traded at a higher price than 2008 futures settlements. A look at the futures prices of trading on April 22 (according to ECX), the futures price in December 2008 is 25.84 euros per CO2 ton, while the futures price in December 2012 is 28.45 euros per CO2 ton. This represents an over 10% price increase. Emission allowances for each country became stricter in the second period compared to the first, with the penalty for not achieving the reduction goals being raised to 100 euros per CO2 ton. There seems to be speculation that that supply and demand will become tighter.

Globalization of Carbon Emission Trading

Markets for carbon emission trading are growing outside of Europe as well. Even in the US, where the Kyoto Protocol has not been ratified, movements towards introducing emission trading at the regional or voluntary level are gaining momentum. The Chicago Climate Exchange (CCX) was established in 2003 as a voluntary and independent trading market. The Regional Greenhouse Gas Initiative (RGGI), a regional coalition of 10 northeastern US states, is set to begin trading in January 2009. A trading market in California is scheduled to be introduced before January 2011, and this movement is now developing into a Pacific-western regional coalition of nine states known as the Western Climate Initiative (WCI). In addition, two Canadian provinces have joined WCI making it a cross-border initiative.

There are currently multiple bills on the table in the US Congress aimed at strengthening global warming measures and introducing emission trading. US presidential elections will be held this fall, and even if the Republican Party maintains control and the environmentally proactive Democratic Party is defeated, there is no doubt that more effort will be put into combating global warming than the current Bush administration. After next year, there is a strong likelihood that specific examination will be conducted regarding the implementation of emission rights trading at the federal level.

Emission trading is also under consideration in Australia and New Zealand. In October 2007, collaboration was agreed upon between EU-ETS and the trading system of the non-EU nations Norway, Iceland and Liechtenstein. The development of a shared platform between EU-ETS and the US as well as between regions and countries within them is under review, and active global trading is expected in the future.

Commoditization of Carbon Emission

Combating global warming is an important issue that humankind must address for the coming decades, and the importance of emission reduction activity that uses the market mechanism only grows.

The first commitment period of the Kyoto Protocol begins this year, and the international emission trading system will be initiated in full-swing. As it will be extremely difficult for Japan to meet the Kyoto Protocol reduction goals with only domestic measures, it is expected to be a major purchaser of carbon emission. The Japanese government is giving priority to acquiring emission rights through CDM and JI, or support of carbon emission reduction projects in other countries. The UN, however, plans to strictly examine Certified Emission Reductions acquisition through CDM. A Japanese company’s CDM application was first rejected in September 2007, and there is concern that the price of carbon emission will rise with the increasingly strict screening process.

Hedge funds are also starting to include carbon emission as parts of their portfolios. The Man Group has announced the establishment of an investment fund that would contribute funds to a CDM project in China, and is moving away from its traditional short-term resell goals to begin acquiring carbon emission in earnest. Oil money also flows in the carbon market, with preparations underway by Qatar’s Doha Bank to establish the Middle East’s first emission rights trading market in 2009.

In the comprehensive package of climate control measures announced by the European Commission in January 2008, the reduction goals for 2020 were set at over 20% of 2015 emission levels. Under these goals about 40% of the total emissions are subject of the ETS, and emission trading is emphasized. In addition, the plan is to make the ETS an open-bidding system and use the auction profits towards support of technological innovation and measures taken by developing countries.

The environment for emission trading is rapidly changing on both the policy and business sides, and this is bringing about market growth and diversification of market participants. The commoditization of carbon emission is advancing as a product familiar to the public. In parts of Japan there is a sense of resistance towards emission trading. There is no doubt, however, that both the government and businesses will consider the economic value of turning carbon into a market good and examine how to effectively utilize emission rights and advance global warming measures.