Aviation Emissions Control Policy and Impacts on Market Competitiveness

1. Aviation EmissionsETG submission to DEFRA Presentation of Draft Submission WG5/6 – 12 June 2007

2. Aviation Advisory Incumbents Aviation Sub Group

3. Terms of Reference • Implications of an EU versus a national level approach • Establishing the cap • Coverage • Exclusions • Start date • Baseline reference years • Cap setting 3 Baseline methodology • Installation allocation options • The role of auctioning 4 Implications of introducing aviation as a major new (Non Kyoto) sector into ETS Phase 2 and Phase 3

4. Criteria and issues • Evaluation criteria • Environmental effectiveness • Economic efficiency • Administrative efficiency • Competitively neutral • Market accessibility • Impact on incumbent members • Issues • The combination and interaction of alternative policy options • Selection of policy options for Phase 2 and 3 • Aviation sub-sector structure

5. 1 EU versus a national level approach • Unanimous agreement - harmonised and administered at an EU level on: • setting caps • installation allocations • both Phase 2 and Phase 3. • Minimises the potential for national variation and competitive distortions • In line with EU ETS policy trends in other sectors for Phase 3

6. Establishing the cap 1 • Coverage • Important competitive impacts however the scheme is designed • Phase 2 – agreed - limit scheme to intra EU only (1) to: • reduce uncertainty and administrative complexity • reduce impact and uncertainty on incumbent sectors • Phase 3 – consider broader inclusion reflecting post Kyoto policy framework

7. Establishing the cap • Exclusions • Include all commercial air traffic • Very limited exclusions allowed • Address regional issues via relevant policies • Start date • Aviation sector – agreed early Phase 2 start (2010 or 2011) • Incumbents – prefer start in Phase 3 to avoid uncertainty and potential market volatility

8. Establishing the cap • Baseline reference years • 1990 rejected due to sector growth, structural changes, data quality and availability • 2008 rejected – potential for gaming, impact on market/incumbents of continued uncertainty • 2004-2006 preferred by incumbents – transparency ofdata; multiple years; close to start date • 2005 – 2007 preferred by aviation – most recent emissions data; limited (if any) potential for gaming; multiple years

9. Establishing the cap • PHASE 2 sector cap setting • All options are a reduction to BAU but (3) delivers greatest environmental benefit • Rules for aviation in Phase 2 should follow other sectors • Phase 2 – contentious areas: • Acceptable level of “effort” • Ability of aviation to pass through opportunity costs • Ability of aviation sector to pass through marginal compliance costs • Competitive impacts between regulated/non regulated airlines and aviation/incumbents increases with stringency • PHASE 3 – aviation should be treated as per incumbents

10. Installation allocationsPolicy option: Grandfathering • Though administratively efficient, rejected due to: • Potential for gaming if future years included • Early action not rewarded • Sector structural and operational changes since the benchmark period would not be reflected, reducing economic efficiency • Longer term administrative drawback - Phase 3 is unlikely to be grandfathering • Grandfathering is not well suited to sectors with dynamic growth and structural change such as aviation

11. Installation allocationsPolicy option - Benchmarking • Benchmarking is the preferred allocation methodology • No agreementon metric due to significantly different impacts across aviation sub-sectors. Three policy options reviewed: • Aviation sector agreement on following policy design criteria: • Incentivise CO2 reduction • Not discriminate/ favour operator or business model • Reflect CO2 emitted by aircraft operators • Administratively simple and sustainable • Reflect recent investment • Recommend additional work on competitive and distributional impacts

12. Installation allocationsAuctioning • Propose single harmonised EU approach to avoid competitive impacts • Level of auctioning • Phase 2 - auction levels as per incumbent equivalent sectors (economic/competitive impacts); higher auction frequency • Phase 3 – Post Kyoto - reflect treatment of other sectors • Use of revenues • Impact on sector investment capacity depends on ability to pass through costs • Revenues raised should be used to improve environmental improvements • Revenue as general taxation is environmentally ineffective

13. Implications of a major new (non Kyoto) sector • Open or closed EU ETS system • Phase 2 – agreed mechanism is needed to protect EU Kyoto environmental commitment • Phase 3 – Post Kyoto framework will determine but aviation objective is full integration • Access to project mechanisms • Phase 2 and 3 • aviation proposes full access to Kyoto mechanisms • Incumbents concern at Phase 2 impact • Rules on supplementarity as per other sectors • reflect economic impacts • level of effort

14. Feedback and comments to draft charles.eyre@eyreconsulting.co.uk 01264 356 900