Don’t pillage the Market Stability Reserve

SUMMARY:

The European Commission now risks undermining the Market Stability Reserve (MSR) and scaling back the progress it has helped achieve. The EU executive has proposed to pillage the MSR to sell some of the allowances it contains to finance the REPowerEU plan. The MSR is not a cookie jar that can be dipped into at whim – it is a critical component of the EU ETS that needs to be protected from raiders.

The Market Stability Reserve (MSR) is an important element of the EU Emissions Trading System. It has proven effective in supporting the carbon price, and helped end a period of very low confidence (and carbon prices) in the EU ETS. The MSR was created in 2015 to address the structural oversupply in the EU ETS, which amounted to a whole year’s worth of pollution by the covered sectors, and started actively sucking surplus pollution permits out of the market in 2019. From 2023 onwards, it will also ‘retire’ (i.e. delete or cancel) emission allowances held in the reserve.

This REPowerEU plan seeks to reduce the impact of Russia’s invasion in Ukraine by saving energy and diversifying energy sources. While a worthy policy goal, its details are damaging. The Commission intends to raise €20 billion by selling about 250 million allowances currently held in the MSR, in effect raising the amount of climate pollution allowed under the EU ETS, depressing carbon prices, reducing the incentives for industry to decarbonise, and undermining the EU carbon market by eroding trust in it and creating a damaging precedent. To add injury to insult, some of these funds would even be invested in fossil fuel infrastructure. Strict strings should be attached to all REPowerEU funding to make sure money is not sunk into climate damaging projects.

Key recommendations:

1. Policymakers should make sure REPowerEU does not harm the EU carbon market or the transition to climate neutrality.
   
2. Draining the MSR will undermine the functioning of the carbon market, result in more climate damaging emissions and destroy confidence in the market. Long term damage to the carbon market should not be the outcome of a purported effort to become less reliant on fossil fuels.
   
3. Clearly, revenues should not be raised using the MSR, especially as alternatives exist. Free allocation is objectively a far more appropriate source of additional revenues (potentially in combination with pooling of allowances that were already set to be auctioned or allowances earmarked for the Innovation Fund).
   
4. In addition, the ‘Do no significant harm’ obligation should be strengthened rather than waived, to ensure EU funds and investments are fully aligned with the Paris Agreement and the EU’s commitments to tackle the climate breakdown.
   
5. The REPowerEU plan cannot be kept separate from the ongoing trilogue negotiations surrounding the reform of EU ETS. Attempts to undermine the integrity of the EU carbon market should be taken seriously, and if needed the negotiators should add measures to prevent the potential damage to the MSR done by REPowerEU. Instead, negotiators should focus on shoring up and strengthening the EU ETS and the MSR itself.
   
6. The European Parliament’s position on reforming the EU ETS is the best approach on the table to ensure the carbon price is not sunk again by oversupply building up in the system again.