Why Europe must back a technology-neutral energy policy

The growing risk of climate change means that energy systems that have served us well for so long now have to change. Climate science indicates that to stay within the agreed limit of no more than a 2ºC average global increase in temperature, greenhouse gas emissions need to drop to zero, and that in the second half of this century we will probably need to remove those gases from the atmosphere to make up for today’s high emissions levels.

The profound implications for our energy markets mean that the question is how best to manage this transition while maintaining security of supply, and without massive increases in energy bills. There’s no straightforward answer because in theory the most cost-efficient way is to apply a price to emissions that allows market forces to establish least-cost solutions. In practice, though, this has already proved difficult. The EU’s emissions trading scheme (ETS) introduced in 2005 a carbon price affecting half of the European economy, and it hasn’t fixed the problem. It wasn’t then, and still isn’t, the only EU policy for reducing emissions. The EU’s 2020 energy and climate package included policies to boost renewables and increase energy efficiency. The renewables policy was as much an industrial innovation and energy security policy as a carbon policy, and it resulted in significant investments across the EU. Energy efficiency policies have helped to overcome non-price barriers to carbon abatement, and demand for energy is falling further as these policies are supplemented by warmer than average temperatures.

The 2020 package, combined with slower economic growth following the 2008 banking crisis, has meant that Europe’s emissions are falling and the carbon price under the ETS is low. Some therefore see little need to do more to manage the transition to a low carbon economy, but I disagree. We need to increase our efforts, but use a different approach.

Europe’s growth of renewables has not displaced the most carbon intensive forms of energy; high gas prices and low coal prices have meant higher coal burn. This has kept the carbon intensity of the economy higher than it would otherwise have been. Large subsidies have been available in the power sector for renewables, but in industrial sectors there have been few incentives for investment in decarbonisation beyond incremental increases in efficiency. The focus of any industry facing a low but rising carbon price has been on securing compensations and exemptions. Few have argued in favour of support for investment in decarbonisation technologies, with the result that there is no support mechanism for CCS, CHP, gas or nuclear in industry beyond a weak carbon price. And the carbon price mechanism is designed in such a way as to penalise investment and sometimes reward the offshoring of production, so further exacerbating industries’ investment woes. This has to change.

Fortunately, there are signs that the EU’s 2030 climate and energy package will introduce changes. But it is far from clear that the new approach needed will actually be adopted. If Europe is serious about achieving deep long term emissions cuts here’s what it will need to do.

The place to start is with the Emissions Trading Scheme, which instead of being the EU’s flagship climate policy has run aground, weighed down by a massive surplus of emissions allowances. Permanently removing excess allowances and introducing an on-going mechanism to adjust for over and under supply has to be Europe’s priority and it is greatly to be hoped that legislation can be passed next year to achieve this.

Sorting out the surplus is only part of the solution. The ETS also needs to properly reward investment, and not to create windfalls for companies that reduce production within the EU. This can be done through allocation methodologies that take production levels into account.

With a functioning carbon pricing policy in place once more, the need for additional policies to deliver emissions reductions is reduced, so the cost of abatement per tonne saved can also be reduced. But it would be wrong to assume that a higher carbon price is all that is needed. For one thing, at the moment the carbon price covers only half of the economy, and for another there are plenty of non-price barriers to saving emissions and money that policy-makers should address. Subsidies for specific technologies like renewables should be reformed and already the EU has decided to drop legally-binding elements of the renewables targets. The risk remains that non-carbon elements of these subsidies like industrial innovation and energy security will be lost, thus slowing the speed of the EU’s transition.

To counter this, a technology-neutral approach to creating markets for zero carbon technologies across all sectors should be adopted. For power generation, this could be achieved by setting performance standards relating to the carbon intensity of supplied electricity – similar to the standards applied to vehicles industry. For industry, a system for spurring investment in innovation can be designed which rewards zero carbon heat production, as opposed to electricity. This could be funded out of ETS receipts and delivered via long-term contracts or tradable certificates. So far though, if no renewable technology to decarbonise industrial processes is available, industrial players have been frozen out of market-based incentives, with the carbon price unable alone to provide the level of incentive that’s needed.

It is high time we started to take decarbonisation in industry seriously and adopt a carrot and stick approach in which the carrot is sufficiently well designed to change investment behaviour. Technology neutral subsidies need not exist forever since their purpose is to stimulate innovation and bring down costs of commercial solutions. But just as renewable subsidies had a role to play, industrial decarbonisation will need targeted temporary support.

There is the need for a much more dynamic approach to energy R&D focussed on high risk, high reward breakthroughs in the way that the successful DARP-E model in the U.S. does. Of course, full decarbonisation needs to be achieved, but it must be done at least cost and securely. For this we will need to deploy a whole host of technologies, some of which we know about and have already made progress in, but many others are still only ideas in labs. Europe has a proud history of invention and innovation but we are less good at commercialising new technologies. Market-led innovation already occurs where there are sufficient deployment incentives to justify investment, but these are likely to deliver only incremental improvements and not step changes – across the EU, the state still has an important role to play here.

I hope that Europe will enter the Paris climate negotiations in December with an ambitious overall goal for reducing emissions along with a realistic plan for delivering a long-term transition of our energy systems. We cannot focus all our attention on the power sector to the detriment of heavy industries, and we cannot pretend that only one or two technologies will deliver the cuts we need. We Europeans must secure investment in innovation and show that it really is possible to run an industrialised economy and to reduce greenhouse gases. If we want China, India, Brazil, Mexico and South Korea to commit to reducing their emissions, they will want to know how they can do so in the context of their own industrialisation. We must have answers when they ask us how to decarbonise refining along with the production of metals, chemicals, cement and ceramics.

It is not too late – we still have five years before the 2030 energy and climate package starts. There is much detail still to be developed and negotiated, but we can yet arrive at a policy package that secures Europe’s place at the forefront of zero carbon innovation and investment.