Plenty to chew on in the EU climate package

The European Commission issued its expected Fit for 55 package in July. The handling of proposals in the EU will begin when the autumn term starts. Alongside individual regulatory proposals, it is necessary to assess how the package affects economies as a whole and the deployment of new technologies. However, making these assessments is not always straightforward or easy.

Refining the architecture of climate actions     

The Commission worked on the massive package until the last minute, and I can only describe some of its main features here. First of all, the Commission did not allocate emissions reductions to emissions trading system (ETS) in the EU to the expected extent. The pressure to reduce emissions is therefore strongly directed at the effort-sharing sector, in which the Member States have country-specific emissions reduction goals.   

For instance for Finland, this means larger emissions reductions than expected, especially in transport and agriculture. As proposed, also Germany, Sweden, Denmark and Luxembourg face the tightest possible emission targets.

Adjustments concerning the two main sectors, ETS and effort-sharing, were otherwise as expected. In the proposal, maritime transport would be included in the current ETS, while greenhouse gas emissions from road transport and the heating of buildings would be transferred to a new separate emissions trading system, which will operate through fuel distributors in practice.

In the land-use, land-use change, and forestry (LULUCF) sector, the proposal is fairly straightforward, and it signifies a well-founded transition to actual and statistical emissions and removals.

Energy to be regulated in too much detail

To achieve the goals of the package, the bar set in energy directives must also be raised. The proposal for an updated energy efficiency directive is very strict as expected, even unreasonably so. Alongside the administrative burden, the problem lies especially in requirements for the total consumption of energy: for example, not all the modern integrated and clean energy systems related to the hydrogen economy reduce energy consumption. The focus should be clearly on emissions reductions and cost-effectiveness.

Furthermore, the proposal for amended renewable energy directive (RED III) is very broad. The EU’s basic goal is clear: to increase the proportion of renewable energy to 40% of total energy use. The non-binding goal set for Finland would be roughly 57%. However, the proposal includes a large number of detailed provisions on such factors as transport fuels, the heating sector, industry, the use of forest biomass, and offshore wind power. 
Negotiations should aim to keep provisions reasonable and consistent. Considering the sustainability criteria for bioenergy, for example, it would be important to maintain predictability, which is absolutely necessary for industrial investments.

The widely expected carbon border adjustment mechanism (CBAM) includes i.a. steel products, cement and imported electricity, a product that is particularly relevant for Finland. Actual carbon border payments would only be applicable after 2025. The mechanism has been built to be interoperable with the WTO rules so that when carbon border taxes increase, the free allocation of allowances in these sectors will be reduced correspondingly. Nevertheless, challenges remain in terms of carbon footprint calculations and trade policy implications.

It is proposed to amend the energy taxation directive in many ways by expanding the tax base and changing the structure of taxation to reflect the climate properties of fuels, for example. The requirement for harmonising the levels of taxation on petrol and diesel is also worth noting. Fuel used in air and sea transport within the EU would no longer be exempt from tax. These are also negotiations that cannot be expected to be easy, taking into consideration that decisions must be unanimous.

In addition, a large number of separate proposals are focused on transport. They concern the emission limits of private cars and vans, the distribution infrastructure for alternative fuels, the blending obligation for aviation fuels, and the emission intensity of sea transport fuels.

Emissions will be reduced; costs and cash flows will be specified

There is no reason to doubt that the EU can reduce emissions as expected through the arsenal offered by the climate package. A more significant question concerns how the requirements will be allocated, and what their impact will be in practice.

A clearer emphasis than expected on obligations in the effort-sharing sector means, first of all, a larger financial burden for wealthier Member States. Effort sharing is based on GDP per capita. Emission cut obligations vary between 10% and 50%. As mentioned, Finland is among the countries with a maximum goal.

Emissions trading system also includes income transfers through the Modernisation Fund and the new Social Climate Fund to compensate for the impact of the new requirements on lower income countries and citizens. Mobility and housing costs will most certainly increase as a result of the new obligations.

The budgetary powers between the EU and its Member States include the question of where the EU’s various cash flows will be allocated. The Commission clearly aims to increase the proportion of the EU’s own resources. This can be seen in both emissions trading and CBAM. Ultimately, the question concerns how much the EU can reallocate shared resources. The EU recovery package is a significant and controversial example of the controversial nature of these issues.

How does the regulatory package promote new climate solutions?

What is striking about the package is the comprehensive, even overlapping, regulation not only on transport, but also partly on buildings and industries. This makes it very challenging to assess combined impact, taking the rapidly changing operating environment into account as well.

In any case, this will have a significant impact on our business life. Including maritime transport in the ETS, limits set for greenhouse gas emissions, emissions trading in road transport and changes in taxation will all affect transport costs in industries. The impact of all of the aforementioned may in time increase to hundreds of millions of euros per year in Finland alone. It is evident for us in far north that the additional costs incurred by winter shipping should be addressed, an issue clearly linked to our international competitiveness.

Alongside costs, the quality of regulation is a crucial factor: it must be consistent and predictable to get all the clean investments being planned moving. Furthermore, regulation must not excessively guide technological choices: we need all clean solutions to fight global warming, and their development calls for encouragement. Of course, this must also be addressed more broadly in the taxonomy of sustainable financing and, say, in the use of the EU’s Innovation Fund.

All in all, the EU’s climate package sets a clear direction and straightforward focus points for climate actions, while the proposals also reveal the EU’s besetting sin: unnecessarily detailed regulation. Climate and energy innovations are being developed more rapidly than ever before, and we should give them the room and opportunity they deserve.

Riku Huttunen is the Director General of the Energy Department of the Ministry of Economic Affairs and Employment