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UK warns CO2 market operators of risks from no-deal Brexit

Highlights

Under no deal outcome, UK to leave EU ETS in March

UK warns operators to plan for loss of registry access

EU CO2 prices fall to Eur18.54/mt, down 9% from Friday's close

London — The UK will leave the EU Emissions Trading System in March if there is no Brexit deal with the EU, the UK government said in technical papers released Friday, warning plant operators to plan for a potential loss of access to the EU's emissions trading registry.

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While the UK sees the most likely outcome as a deal between the UK and EU that would extend the UK's participation in the EU ETS, the government also prepared documents that aim to help the operators of UK-based installations and airlines to make contingency plans for a no-deal outcome.

Those risks appeared to increase over the weekend when Brexit talks between the UK and EU hit problems linked to the issue of the Irish border.

If the EU and UK fail to reach an agreement, about 1,000 UK-based installations and about 140 airline operators will fall out of the EU ETS on Brexit day, March 29, 2019.

This would mean the operators of those power plants, factories and airlines would no longer be covered by EU ETS obligations, while flights between the UK and the European Economic Area are not expected to be covered by the EU ETS obligations, the government said.

"In a "no deal" scenario, the UK government will therefore remove requirements relating to the surrender of emissions allowances," it said.

"Operators and traders with EU ETS Emissions Trading System allowances in their account in the UK section of the [EU] Registry should plan for a loss of registry access and consider taking action to manage the risk of this happening," the government said.

"Such action might include opening a second account in another Member State's Registry as part of their contingency planning for a "no deal" scenario," it said.

"The risk of loss of registry access should similarly be considered in relation to any open futures, options or other derivative contracts and hedging positions for any allowances in the Registry," it said.

"Operators should continue to comply with the EU Emissions Trading System Directive whilst the UK remains a participant. Operators should be prepared to leave the system in the event of a "no deal" scenario, but plan to comply with monitoring, reporting and verification requirements into the future," it said.

EU Allowance futures contracts for December 2018 delivery on the ICE Futures Europe exchange in London fell sharply to as low as Eur18.54/mt ($21.49/mt) late Monday afternoon, down Eur1.83/mt or 9% from Friday's close.

The EU has already passed legislation that protects the EU ETS from a potential sell-off of several million unused carbon allowances from UK-based operators by rendering UK allowances issued in 2019 invalid for compliance under a no-deal scenario.

Under a no-deal outcome, the UK will not have guaranteed access to the UK section of the EU ETS registry, which tracks ownership of carbon allowances under the system, the UK government said.

For CO2 emitted in calendar 2018, the UK has already provided certainty to UK operators by bringing forward the compliance obligations ahead of the Brexit date.

To make sure those obligations will not be affected in a no-deal scenario, the UK passed domestic legislation in 2017, bringing forward the deadline to report 2018 emissions to March 15 from previous March 30.

In addition, the UK brought forward the deadline for UK operators to surrender allowances for 2018 emissions to March 30, 2019, from April 30, 2019.

"Any EU Emissions Trading System allowances issued by the UK for the 2019 compliance year cannot be used by UK operators to meet their 2018 compliance obligations," the government said.

"Operators will want to consider this when planning to meet their 2018 compliance obligations," it said.

The UK government will retain the existing financial penalty (Eur100 per mt of CO2 not covered by an allowance) for failure to surrender allowances for the 2018 compliance year, it said.

"In a "no deal" scenario, the UK government will initially meet its existing carbon pricing commitments via the tax system, taking effect in 2019," it said.

"A carbon price will apply across the UK, including Northern Ireland. The Single Electricity Market is being accounted for in all options," it said.

The UK government will publish more details of how it will initially apply a carbon price in a no-deal scenario at Budget 2018, due to be published October 29, and legislation will be included in the Finance Bill 2018-2019, it said.

UK-based environmental group Sandbag warned Monday that a no-deal Brexit could prompt a resurgence of UK coal-fired power generation because it would effectively reduce the carbon cost faced by UK coal-fired plant operators.

UK-based power plants face a combined carbon cost made up of the EU carbon price and the Carbon Price Support -- a domestic UK tax of GBP18/mt of CO2 from fossil power generation.

This could increase demand for coal and raise CO2 emissions in the UK but would not be expected to push the EU carbon price higher, since those plant operators would no longer need to buy carbon allowances.

-- Frank Watson, frank.watson@spglobal.com

-- Edited by Pankti Mehta, newsdesk@spglobal.com