Can nature play a role within the UK's Emission Trading Scheme?

Following the UK’s exit from the European Union and in turn, the EU Emission Trading Scheme (EU ETS), the UK, Scottish and Welsh Governments and the Northern Ireland Department of Agriculture, Environment and Rural Affairs – collectively making up the ‘UK ETS Authority’ – established its own ETS in order to “increase the climate ambition of the UK’s carbon pricing policy, while protecting the competitiveness of UK businesses”.

The UK ETS is a cap-and-trade scheme focused on driving down emissions amongst the most energy-intensive industries (installations and aviation) - designed to enforce regulations such as issuing and ensuring compliance with permits and emissions plans. It runs via auctions and trading on the secondary market.

The idea of implementing an ‘appropriately high’ carbon price to the emissions allowances should incentivise in-house abatement, greater corporate sustainability practices, and subsequently advance the UK’s pathway towards net zero. However, it is recognised that despite policy changes and rapidly improving technologies, we will likely face unavoidable emissions throughout the coming decades. With that in mind, determining what qualifies for such emissions allowances is the question on the mind of decision-makers… and a topic that is hotly debated.

We have reviewed the recently published Government response to the ‘Developing the UK ETS’ consultation and provided a quick-read of our ‘dumbed-down’ analysis.

What are GGRs?

Greenhouse Gas Removal is the term for methodologies that directly remove/draw down carbon from the atmosphere. These are broadly categorised into either nature-based or engineered approaches.

• Nature-based approaches: such as afforestation, forest management, and soil carbon sequestration.
• Engineering-based approaches: such as Direct Air Carbon Capture and Storage (DACCS), Bioenergy with Carbon Capture and Storage (BECCS), wood in construction, biochar, and enhanced weathering.

What conclusions were drawn from the Government’s Call for Evidence? Why might it be considered appropriate? And what considerations need to be factored in?

The consensus of the consultation swayed towards UK ETS being an appropriate long-term market for GGR deployment, however not without caveats and concerns.

From an optimistic outlook, the hope of its inclusion would be to generate much-needed demand to drive investment, confidence, and scalability into both engineered and nature-based emission reduction project types. In addition, under a ‘polluter pays’ principle, proportionate responsibility would be pinned on the heavy emitters. Scaling such methodologies and innovations, within the boundary of a compliance market, could also improve monitoring, reporting, and verification (MRV) procedures, which may interact with the voluntary carbon market (VCM) and support current VCM standards (UK Woodland Carbon Code and Peatland Code), infrastructure, and processes.

However, those sceptics raised concerns on a number of fronts. The biggest disagreement came from those challenging its inclusion as a ‘disincentive for decarbonisation’ – maintaining the EU ETS requires ‘fungibility’, and not ‘substitution’, with nature-based removals not regarded as a like-for-like alternative to abating emissions in-house. In a similar vein, the argument made a point that biogenic carbon removal via natural ecosystems takes time, and best-case projected climate scenarios require immediate, accurate, and permanent removals.

Fears around permanence and the quality of the permanence are seen as vital to ensuring a successful, credible ETS. When assessing technology type, some still question the accuracy of quantifying removals from nature, in comparison to easily calculable engineered solutions. Therefore, those, including the Climate Change Committee, argued removals should be permanent and irreversible, deeming nature-based solutions a problematic project type and advising against its initial inclusion until we can better understand and manage “permanence, costs and wider land management impacts.”

Furthermore, commercial and technological readiness mean pricing per unit (tCO2e) between the methodologies varies substantially, therefore requiring different forms of financial incentive.

Increased liquidity still has most sitting on either side of the fence.

Suggestions were proposed on how the EU ETS could be designed to factor in GGRs whilst maintaining the incentive to decarbonise and not act as a ‘mitigation deterrence’. These suggestions are broadly grouped within improvements to the management of supply, timing (phased integration), and sectorial focus.

But, surely, nature-based investments can only be a good thing? Why are we focused on engineered solutions that are still some way off from being scalable and competitively priced?

Within the context of a compliance market, far stricter regulation is placed on the quantification of carbon to compensate for emissions of participating organisations. Therefore, technologies such as DACCS and BECCS, where we can track exact measures of CO2e input vs. output are considered favourable. In addition, these removals can be stored ‘forever’ and are not subject to potential reversal.

Nature on the other hand can be highly variable when it comes to volume of sequestration, dependent on species type, to factors such as micro-climates and soil type. Therefore, when using the best available data, it is still based on a certain degree of assumption. Hence why existing VCM methodologies implement an inaccuracy buffer to project volumes. Permanence is also subject to impacts such as wind, fire, and disease, which would cause the release of carbon and other gases back into the atmosphere.

So, how might EU ETS changes interact with current nature-based standards within the UK Voluntary Carbon Market (VCM)?

In contrast to the above point, with the inclusion of nature-based projects within the ETS is a belief it could help the development of robust MRV standards supported by the Government, leading to better scrutiny of methodologies and accounting. With greater integrity, comes greater confidence in the markets and increased investment and long term-certainty. The capital would reach beyond carbon too, supporting a much wider range of ecosystem benefits, incl. biodiversity, flood management air quality, etc., much like the existing Woodland Carbon Code projects. With engineered solutions still some way off, nature-based approaches would sit as a reasonable interim solution, as long it did not deter investment to scale up engineered approaches.

However, it must be recognised that if this was to work, then it would have to be done correctly and not simply amplify existing issues found within the current UK VCM. Further strains on infrastructure and capacity in a highly constrained, fragile market may further fragment existing standards. It could negatively impact land-use change, creating pricing conflicts and decisions made irrespective of local community benefits. In addition, it may perversely influence decisions around food production. And finally, pricing would have to be carefully managed to maintain demand – whilst VCM pricing shadowing the higher ETS pricing may reflect a figure closer to the social and environmental cost of carbon, and push decarbonisation, it could have the opposite effect of pricing existing participants out of the market completely.

What does this mean going forward?

Any decisions around including nature-based approaches within the current EU ETS are likely some way off. At least until current MRV procedures are further developed to meet the criteria of a compliance market, or, can be integrated with a view to rapidly improving those outlined issues. Therefore, we don’t see this having a significant influence on the UK VCM in the near term.

However, Forest Carbon’s view is that this should not mean we pull the plug on restoring nature – and especially the energy-intensive industries subject to compliant requirements. Nature is critical within the wider climate targets, and needs support both locally and globally. It hosts numerous positive co-benefits, including biodiversity, which is critically interlinked and co-dependent on nature and the carbon cycle.

In fact, science-backed sustainability guidance standards such as SBTi recognise this and are driving companies to think more around integrated approaches that go above and beyond the value chain, and even beyond carbon. Organisations should look to maximise immediate to near-term impact, whilst thinking and investing in longer-term solutions beyond value chain mitigation (BVCM) as a means of long-term security. Our most obvious answer to this is nature.