Legal, Economic Concerns Mute Aviation CO2 Trade

January 3, 2012

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Airlines are taking a guarded approach to carbon trade since joining the European Union carbon scheme on January 1, as ongoing legal challenges and economic concerns hinder their activity, brokers and analysts said on Tuesday.

From the start of the year all airlines using EU airports are included in the EU Emissions Trading Scheme (ETS), the 27-nation bloc's main policy tool to help combat global warming by capping emissions on some 11,000 power and industrial plants.

Germany's biggest airline Lufthansa said it would pass on to its customers an expected EUR€130 million (USD$169 million) of costs for carbon permits it needs this year under the EU ETS.

"I don't see a massive inflow into the carbon market from the aviation sector," said Andy Ager, head of carbon at broker Jeffries Bache in London.

While some European carriers are starting to become active in the carbon market, the non-EU carriers are taking a more guarded approach, he said. "You will see a gradual entrance into the market from the aviation sector."

Airlines at first will be given free allowances for 85 percent of the sector's emission cap calculated from 2004-2006 data, but many will need to buy extra permits on the open market due to an increase in air travel in recent years.

Some airlines have already been buying carbon permits in the EU ETS, testing the waters of the market and taking advantage of carbon prices that have recently crashed to record lows.

Around five to 10 airlines in total have begun to trade carbon permits, according to one carbon trader at a bank.

Benchmark front-year carbon prices, called EU allowances were trading near record lows on Tuesday at below 7 euros a tonne. Prices have halved since the start of 2010 because of an over-supply of permits in the market and fears of an EU economic slowdown.

Despite the price slump, many carriers are unlikely to rush into the carbon market due to their concerns about the euro zone's debt crisis and the prospects of ongoing legal challenges from the United States and other non-EU countries to the aviation sector's inclusion in the ETS, a broker said.

LEGAL OBSTACLES MAY PERSIST

The United States, China, India and others have attacked the EU ETS on the grounds that it infringes their sovereignty and that the EU should not act alone. Some have warned of counter-measures, firing talk of the world's first carbon trade war.

The EU says its carbon market, which already applies to other industries, is the fairest way to cope with aviation's contribution to global warming and cuts through years of inconclusive efforts to come up with a worldwide alternative.

Last month, Europe's highest court gave its full backing to the EU law, saying it did not breach national sovereignty and it covered emissions related to flights under the jurisdiction of the EU.

US airlines have said that reluctantly they will comply with the EU law, although they are considering their legal options. The US Congress is considering measures that would forbid US carriers from taking part.

Emmanuel Fages, head of European energy and carbon research at Societe Generale, said the court ruling was likely to spur some airlines to become more active in the carbon market. "Some will still take some time," he said.

"Most non-EU airlines waited until the EU court decision," one trader said, adding he expected foreign carriers to be less active in the market because they had fewer affected flights than EU airlines.

Airlines are only due to receive their first free permits from the European Commission by the end of February. From 2013 to 2020, airlines are expected to buy about 700 million permits.

Still, the carbon market has been overwhelmed by an over-supply and concerns that slowing EU growth this year would mean less demand for carbon permits from the 11,000 power utilities and industrial plants already taking part in the scheme.

(Reuters)