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Taming King Coal – the EU’s energy policy

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Taming King Coal – the EU’s energy policy

Europe has willed the end but not the means to deliver the CCS demonstration programme. Unless a way is found to rebuild momentum at EU level it is likely that companies will look to invest in other projects and other areas. In short, Europe has put itself between a rock and a hard place.

That’s the argument E3G Chief Executive Nick Mabey makes in a leader article published in Issue 3 of Carbon Capture Journal. The text of his article follows below.

Taming King Coal – the EU’s energy policy

In March 2007 EU Heads of Government called for the deployment of technologies for the capture and storage of CO2 (CCS) in new European power plants by 2020, and welcomed the European Commission’s intention to establish a mechanism to stimulate the construction and operation by 2015 of up to 12 CCS demonstration plants.

The EU is now in the process of adopting legislation providing for the geological storage of CO2. So far, so good; but the current EU demonstration strategy will not produce CCS as a deployable large scale low carbon power option before 2020.

Europe’s goals

Preserving European climate security means limiting global temperature rises to 2°C. Europe cannot meet this multilateral goal, or achieve internal energy security without aggressive EU leadership on CCS.

Global energy scenarios which stabilise greenhouse gas (GHG) concentrations around 450ppm CO2 equivalent – giving a 50% chance of remaining below 2°C – assume large scale deployment of CCS starting during the period 2015-20. Each year of delay, according to recent scenarios analysis by Shell, potentially raises the final stabilisation concentration by at least 1ppm.

Delay also risks lock-in to high emissions technologies. The next 25 years will see utilities in Europe build up to 850GW of new power stations, more than the US and nearly as many as China. Even if the EU meets its challenging renewable energy targets, over 75% of this investment will be in coal or gas fired power stations.

With gas prices high, and fears about dependence on Russian supplies rising, nearly 40GW of new coal power stations are planned by 2012 alone; mainly in Germany, Poland and Eastern Europe.
Unless these stations can be technically and economically retro-fitted with CCS, they risk having been inefficient investments – becoming costly stranded assets worth billions of Euros, or long term climate liabilities which reduce Europe’s ability to transform into a low carbon economy.

Europe is the only major power seriously committed to delivering the 2°C target. The price of such leadership is that Europe needs to develop CCS technologies or the US, China and India will carry on investing in dirty coal and undermining European climate security.

When we recognise that developing CCS is not an option but a necessity, the question becomes “if not us, then who?”

Delivering CCS demonstration

No single European country can alone take on developing an effective demonstration programme on CCS. While active industry and Member State support is critical for moving CCS forward, “bottom-up” activity is not currently delivering a comprehensive and accelerated demonstration programme.

A critical reason for this is that none of the countries or companies can on their own deliver a definitive assessment of CCS technologies and networks which would lead to market deployment. The resulting market failure leads to systematic underinvestment in CCS projects.

Producing high quality, comparable data to deliver an early resolution of many of the issues surrounding the technical and environmental feasibility of CCS, together with decisions on network investment inside a context of public acceptance, requires concerted EU action as a whole. And action must also be rapid.

The current Commission proposals foresee policy intervention: “a focused R&D and demonstration effort can bring down costs of CCS by 50% between now and 2020, facilitating commercial deployment.” But to deliver this outcome, the Commission looks primarily to the EU Emissions Trading System (ETS), where “under the carbon market, CCS will be deployed if and when it is cost-effective”.

This model will fail. From 2013 power plants face paying for 100% of their carbon permits, clearly creating stronger disincentives for building new coal plants. Even then, the carbon market cannot on its own deliver adequate investment in zero-carbon power to meet EU targets. CCS is likely to require prices of at least €75-85 a tonne of CO2 to be competitive with unabated gas power in the next two decades.

If power station construction costs continue to escalate, the threshold price needed for CCS deployment will continue to increase, with estimates as high as €100-120 tonne CO2; a figure comparable with the cost of large scale offshore wind power and concentrated solar thermal power stations. Forward prices in the ETS are not currently providing these incentives.

Further, from 2009, if a strong global climate deal is concluded at Copenhagen, European emission trading prices will effectively be capped by the price of externally purchased permits which could cover up to 50% of the EU’s effort beyond the 20% (or rather, Europe’s multilateral 30%) target by 2020.

The price of these permits will be set by the cost of decarbonisation in China and India, and is highly unlikely to reach levels necessary to deploy CCS.

In short, there is a fundamental tension between using international trading in the ETS to lower the cost of meeting the EU’s targets, and expecting the ETS to send sufficient price signals to drive the low carbon power investment needed to reach the EU’s 2050 objectives.

Supplementary policies – both European public funding and clearer regulation – are needed to shift EU investment patterns.

Market pull instruments

Already, some utilities argue that unless they continue to receive free ETS permits there will be a collapse in investment and Europe’s lights will go out. The answer to this dilemma is to give the utilities the regulatory certainty they say they need.

Without the prospect of significant CCS deployment by 2020, even if the technology is proven, companies will have weak incentives to invest their own financial and technical resources in accelerating the improvement of risky CCS technology through demonstration programmes.

As with large scale renewable energy technologies, a regulatory approach could give effective market incentives for private investors.

This should take the form of either CCS as a mandatory requirement on new fossil fuelled plants from 2020 at the latest, or of an immediate carbon emission standard (tonnes CO2 per MWh generated) precluding the construction of unabated coal power.

Both rules should be technology neutral between CCS options, and between CCS and other low carbon power options. Unlike renewable energy there should be no obligation to build CCS power stations, but a requirement to fit CCS if a fossil fuel power station is being built. Any regulation should be reviewed in 2014 based on the demonstration programme results, and revised if serious problems with CCS have arisen.

The current legislation on storage needs to include these provisions.

Market push

The current legislation also fails to provide guaranteed EU funding to deliver the demonstration plants. The industry-led Zero Emissions Platform (ZEP) estimates the total incremental cost of the full CCS demonstration programme over its life time would be at least €6-10 billion. Others have estimated €10-16 bn. Industry has reiterated to the Commission the need for significant public support if they are to make complementary investments in major CCS demonstration projects. The result is that there is currently little progress on moving forward many of the major planned demonstration projects.

Innovative proposals from ZEP to use part of the emission permit allocation in Phase III of the ETS have not yet found sufficient support among Member States to be implemented. The Commission will review the potential for EU funding at the end of 2008. This exercise primarily will look toward the next 7-year EU budget period for 2014-2020, but the clock is ticking, and with political will an earlier funding stream could be unlocked from the current budget underspend.

With the 20% (probably 30%) emissions reduction target looming, another existing EU project is now at risk of failure. It too could be funded. Agriculture underspend from 2008 alone was projected to be €7-8 bn – before rising food prices. This year’s underspend could now top €10 bn.

Balancing risk and reward

While lack of market pull cannot be made up just by additional public funding to push development and demonstration activities, and while extensive experience shows that over-reliance on public funds will lead to cost-overruns and “white elephant” experimental projects, companies will not drive aggressively toward CCS commercialisation without a near-term market signal.

The European CCS demonstration strategy therefore must provide an acceptable balance of risk and reward for the private sector, and send very clear signals to investors over the future regulatory environment for fossil fuel power plants in Europe.

The current high levels of uncertainty are tending to disincentivise investment in new low carbon technology in favour of simple hedging strategies like moving to gas–fired generation. There is a need for immediate European funding to support the initial capital costs for a priority programme of CCS demonstration projects which would give high European public value.

This programme should provide “first-mover rewards” by funding one example of each of the following: all major capture technologies; large scale CO2 storage and transport; demonstration in Central and Eastern Europe; CCS in the steel and cement industry; and CCS demonstration in major developing countries. Member States should develop and part-fund these projects with industry. EU funding of around €250-500 million per annum for 2009-13 would kick start this process. In return, all projects would operate under conditions of full transparency and comparability and potentially agree to conditions on technology cooperation.

Depending on market conditions and/or technological development the CCS demonstrations may cost less than anticipated. In this case it is important that there are no windfall profits to CCS developers. This safeguard could be achieved by including a clause on sharing profits above a reasonable rate of return, with a 100% profit claw back above a certain level.

Of course, the stronger the market pull signal, the more companies will be prepared to invest their own resources in demonstrating technologies, and the less public funding will be needed for the demonstration programme.

CCS ready assessment

Utilities and investors across Europe have yet to fully price future climate change policy into their investment models, and discussions show that there is scepticism that the EU has the political will to achieve its emissions targets.

A weak requirement in the storage legislation for technical “CCS ready assessment” of new plants confuses rather than helps to resolve this dilemma, and Europe is in danger in the next decade of building a stock of new nominally “CCS ready” coal power stations which cannot be economically retrofitted with the technology.

The worst case is that new plants are making minor changes in site layout allowing for a future CO2 capture facility, when they have no economically viable access to transport and credible storage facilities. With high uncertainties regarding both transport and storage costs, as yet there is no clear business model for either. Will CO2 transport be allowed through common carrier pipelines, constructed with public funds and shared by many users?

Or will dedicated investment in transportation need to be included directly in project finances? Will CO2 storage compete with bulk gas storage, and be priced at variable rates? Or will storage be managed as a government concession with zero economic rent?

It is critical for the industry, for consumers and policy makers that investors and operators are aware of the full costs and uncertainties around fossil fuel investments. Given the immaturity of this market it makes sense to require full technological, economic and financial readiness analysis, based on a set of agreed guidelines across Europe. The legislation could do this.

Here is a proposal. All new plants should be required to undertake a full economic, financial and technical review of CCS retrofitting as part of their permitting process. Private investors in utilities should require similar analysis as due diligence for power plant financing. Guidelines for the analysis should be produced by the European Commission in consultation with member states and stakeholders. This would also avoid any legal challenges against future regulation requiring CCS retrofitting.

Between a rock and a hard place

Europe has willed the end but not the means to deliver the CCS demonstration programme. Unless a way is found to rebuild momentum at EU level it is likely that companies will look to invest in other projects and other areas. In short, Europe has put itself between a rock and a hard place.

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