Demand for European carbon quotas fell during the sale of the coronavirus last month, providing the first significant test for a new market mechanism designed to limit excess supply.
The price of carbon dioxide credits, which are compulsory for major European polluters such as power plants, fell by more than a third in early March, reaching a low of € 15.05 per tonne on March 18. The price has rebounded since, closing at € 21.09 on Thursday.
Analysts and traders estimate demand for emission allowances will drop from 100 million tonnes to 388 million tonnes this year – down 6-24% from normal demand – due to measures to contain the spread coronavirus.
“The market was already under some pressure,” said Louis Redshaw, founder of Redshaw Advisors, a carbon consultancy, noting the effects of falling energy prices and an abundance of credit on the market. companies based in the UK after Brexit. “This coronavirus situation gives him a good kick in the ribs when going down.”
However, Redshaw expects prices to go up to around € 25 early next year as a new intervention mechanism begins to take effect.
A change in the design of the European carbon market, which entered into force in January 2019, means that if the number of credits in circulation exceeds a certain threshold, part of this surplus will be absorbed by the regulator.
This system, known as a market stability reserve, was created to prevent the repetition of what happened after the 2008-2009 financial crisis, when carbon prices languished for years. This was seen as a failure of the EU’s largest emissions trading scheme, which was created in 2005 to reduce greenhouse gas emissions.
“This is MSR’s first real test,” said Ingvild Sorhus, EU senior carbon analyst at Refinitiv. “It will absorb some of these additional allocations for which you cannot find any requests yet.”
The mechanism removes 24% of excess credits each year, which in fact shrinks the market.
With this support from MSR, some financial investors in the carbon market have assumed that prices will continue to rise – an approach that has been painfully tested this year.
“There were a lot of investors in this market and they were leaving their position in one form or another,” said Mr. Redshaw.
When carbon prices jumped in 2018 and 2019, hedge funds and banks piled up in the niche market.
Aviation emission credits, a subset of allowances from the EU’s emissions trading scheme, have been particularly hard hit this year as many airlines have stopped flying, a large UK auction not authorized on March 25. for the Polish market managed to clear on April 8.
Some market observers are surprised that prices have not fallen further. “We expect much lower prices; we expect prices to reach € 11 per tonne, ”said Coralie Laurencin, senior director of electricity markets at IHS Markit.
But supporting the market is “what the MSR was built for,” she added.
“Although I am almost sure that this is not the scenario that policy makers had in mind: such a drastic and brutal collapse.”