Addressing leakage in the EU ETS: Results from the CASE II model

Dr Stéphanie Monjon, CIRED

The European Union Emission Trading System covers CO2 emissions from electricity generation and heavy industry. Industry representative criticise it on the ground that it would create a competitive disadvantage for European manufacturers and increase emissions abroad, which is called carbon leakage. Several options have been proposed to tackle carbon leakage. To assess these proposals, we build a partial equilibrium model focusing on the main sectors affected by the EU ETS: cement, aluminium, steel and electricity. We analyse eight policy scenarios with various provisions aimed at tackling leakage, and compare them to a scenario with full auctioning of allowances and no anti-leakage provision. We conclude that the most efficient way to tackle leakage is auctioning with border adjustment, which even induces a negative leakage (a spillover). Another relatively efficient policy is to combine auctioning in the electricity sector and free allocation of allowances proportional to current production in the exposed industry, especially if free allowances are given both for direct emissions and for indirect emissions, i.e. emissions generated by the electricity consumed.