SUSTAINABILITY INSIGHTS: OFFSHORE ENERGY SERIES

At a high level, the following steps (see Figure 10) are completed to estimate the SCC and are completed using computerized models.

Step 1

Predict future emissions based on population, economic, growth, and other factors.

Step 2

Model future climate responses, such as temperature increase and sea level rise.

Step 3

Assess the economic impact that these climatic changes will have on agriculture, health, energy, use, and other aspects of the economy.

Step 4

Convert future damages into their present-day value and add them up to determine total damages.

Overall, SCC is a very important tool used by the government to decide where investments will flow, as the present U.S. administration reinstated the Obama administration’s central case value of $51 per ton of CO2

3 1 1 2 Ira And Carbon Pricing

The U.S. Inflation Reduction Act (IRA) signed into law in 2022 offers substantial subsidies for investment in renewable sources of clean energy. It commits nearly $369 billion to those investments and is expected to reduce roughly 40 percent of GHG emissions by 2030, comparing against a baseline level from 2005. The IRA does not explicitly price carbon at the point of its use but surely acts as an industrial policy accelerator for low-carbon investments.

The IRA does increase tax credits for capturing and sequestering CO2 at industrial facilities and power plants. The increase is from $50 per ton to $85 per ton for carbon stored by industry and from $35 to $60 if used for Enhanced Oil Recovery (EOR) and in the case of Direct Air Capture (DAC), the increase is from $50 to $180 per ton.

Additionally, the IRA creates a shadow carbon price since it incentivizes low carbon options and pushes them ahead of high carbon sources of products and services. While the IRA does not create a stable carbon pricing environment and can cause some distortions, it is something that cannot be ignored by incumbent industries that are addressing the challenge of a low carbon energy transition and can be an opportunity for a soft-landing.

3 1 2 China

China has the world’s largest carbon market by emissions and 2021 was the first full compliance cycle. The program reported a compliance rate of 99.5 percent with over 2,100 liable power stations participating during this cycle, covering over 4.5 billion metric tons of CO2 equivalent per year, which represents over 30 percent of China’s total GHG emissions. The closing price for the year for the allowances was 54.2 yuan ($8.5) per metric ton but indicates a 13 percent increase from the start of trading. A record 179 million tons of allowances were traded in 2021, representing a turnover close to 7.7 billion yuan ($1.2 Billion), and while small, it is not insignificant. 35,36,37

3 .1 . 3 EU ETS

Launched in 2005, the EU ETS is the world’s first transnational ETS, which includes 27 EU member States and three states from the European Economic Area-European Free Trade Association (EEA-EFTA): Iceland, Liechtenstein, and Norway.

While refineries are explicitly mentioned as a source covered under the program, emissions from upstream production and exploration, which includes gas flaring, are covered under the category of combustion installations. Additionally, emission from transportation of the crude oil, natural gas and fuels are covered, for example, emissions from fuel use at pumping and compression facilities, and gas processing facilities.

From 2024, amendments have been proposed to cover marine specific emissions from offshore installations, including movements and work done by offshore support vessels (OSVs). This is expected to cover vessels of 400 gross tons (gt) and above from January 1, 2024, and for vessels above 400 gt and below 5000 gt, “shall only be required to report the information which is relevant for the inclusion of such ships within the scope of the EU ETS from 1 January 2027” , purportedly to ensure there is a proportionate administrative burden for these vessels.

The largest carbon market by traded value is the EU ETS and saw record trading activity and prices in both spot and futures market and over 15 billion allowances were traded in the intercontinental exchange. The EU climate law came into force in 2021, which set the binding new EU-wide climate target of 55 percent reduction by 2030 in comparison to a baseline of 1990 (Fit for 55). The Fit for 55 program also includes the addition of a new, separate ETS which will cover transport and buildings. The requirements are expected to be gradually phased in during the 2023 to 2027 time frame. ETS market stability reserve will be amended to enable a smoother intake of allowances to the reserve and hence, from 2023, allowances above the level of auction volume of the previous year will be invalidated and the Market Stability Reserve (MSR) will be limited to 400 million tons.

Additionally, a separate self-standing ETS for fuel distribution for road transport and buildings will be established starting 2025. The regulated entities will be expected to report the amount of fuels placed on the market starting 2024 and from 2026, they would have to surrender a corresponding amount of allowances.

The EU ETS is one of the EU’s key policies for reducing carbon emissions. It has already completed three phases from 2005 to 2020; the fourth phase started in January 2021. The history is briefly recapped in Figure 11.

Phase 1 worked as a pilot phase to test price formation and build up the monitoring, reporting and verification schemes for emissions.

The cap of the emission was estimated due to lack of data. Phase 1 was aimed to ensure EU member States met their commitments under the Kyoto Protocol.

Business could only trade on units generated under the Kyoto Protocol mechanisms clean development mechanism (CDM).

Phase 2 had the same period as the first commitments period under the Kyoto Protocol. Aviation emissions were included in EU ETS at the end of this period.

Phase 2 allowed trading on both CDM and joint implementation (JI) emission reduction units.

Phase 3 had the same period as the second commitments period under the Kyoto Protocol.

An EU-wide cap replaced the previous national caps.

During Phase 3, auctioning was set as the default method for allocating allowances instead of free allocation. More sectors and gases were included in this phase.

A more ambitious cap of EU ETS was initiated by announcement of the European Green Deal recovery package and new 2030 mitigation targets.

EU ETS planned to include the marine transport sector, and possibly road transport and buildings.

It is a typical cap-and-trade system, covering CO2 emissions from industry, power and aviation sectors, nitrous oxide (N2O) from certain chemical sectors and perfluorocarbons from aluminum production.

Like other cap-and-trade systems, the legislation for the EU ETS sets the annual cap, which in turn determines the number of allowances in this market; the cap is also designed to be reduced each year to gradually cut the emissions.

These allowances are allocated to participants for free or sold through auctions. The free allocations are given to the sectors (such as industry and aviation) based on benchmarking and historical data. Then, the EU ETS allows participants to trade their allowances on the market to ensure their compliance with the regulation. Fines and penalties are applied to participants who failed to comply with their allowance limit at the end of the year.

3 2 Carbon Pricing Trends

The figure below shows the absolute emission coverage, share of emissions covered and prices for CPIs across jurisdictions. It is clear that the China National ETS program and the EUETS program have been the most successful in terms of volume of GHG emissions. The EU ETS program seems to be operating like an efficient market as one would expect and the cost of allowances is high enough to cause market behavioral shifts.