CYPRUS ELECTRICITY COSTS TO RISE WITH HIGHER CARBON PRICES

 Cyprus Mail 18 August 2020 -

By Dr. Charles Ellinas

EU carbon prices are soaring. Last month they exceeded €31/tonne CO2 (carbon dioxide), the highest since 2006. But the average over the year could be lower. EAC based its 2020 budget assuming €25.7/tonne. But that’s not where it ends.

The emissions trading system (ETS) is EU’s key tool for reducing greenhouse gas (GHG) emissions and operates throughout Europe, including Cyprus.

This is based on a ‘cap-and-trade’ system. The EU sets a cap on the total amount of GHG emissions that can be emitted by energy-intensive installations, such as power plants, and companies, such as EAC. These companies buy emission allowance rights, which they surrender each year to cover all their emissions. Over time the EU reduces the ‘cap’ so that total emissions fall. Those companies that exceed their allowances are subject to heavy fines.

The Electricity Authority of Cyprus (EAC) expects to emit 3.33 million tonnes of CO2 in 2020 and has budgeted €85.7 million to pay for this. Replacing heavy fuel oil and diesel, currently used for power generation, with natural gas is expected to reduce this cost by over 30 per cent. But will this lead to lower electricity prices in the longer-term?

EU’s green drive

Having got its Green Deal in place, the EU is now driving policies to achieve the ultimate goal of net-zero emissions by 2050. Among other measures, it wants carbon prices to rise to deter emissions. And it plans to achieve this by reducing the number of emission allowances, in accordance with the 2017 revision of the ETS system that tightened the whole process.

By 2030, emissions from sectors covered by EU ETS will be cut by 43 per cent from 2005 levels. However, emission allowances may be tightened further after next year’s planned review.

EU’s green drive has been reinforced further by the measures agreed in July as part of EU’s recovery package, with the key objectives of achieving climate neutrality and digital transformation.

The impact of these policies is now getting through and that is what is driving ETS carbon prices. These rose from about €5/tonne in mid-2017 to close to €30/tonne now. They averaged less than €13/tonne in 2018, but were almost doubled in 2019, to an average of about €25.7/tonne.

EU carbon price forecast

The ETS provides for a reduction in the emission allowance quotas of 2.2 per cent per year to 2030. In addition, the EU is proposing to increase its GHG emission reduction target from the current 40 per cent to between 50 per cent to 55 per cent by 2030 in comparison with 1990 levels. The impact of these – and the Green Deal – is expected to be increasing ETS carbon prices during the next ten years. It’s odds-on that the EU will act to ensure carbon prices remain high by applying a much tighter squeeze on emission allowances.

As a result, during the last few weeks, companies and investors have been buying CO2 credits on the expectation that future prices could go even higher, and this has contributed to the recent price increase.

This is also reflected in carbon price forecasts. Analysts expect prices to exceed €32-37/tonne in 2021 and €32-38/tonne in 2022, and to exceed €55/tonne by 2030. These forecasts imply an average carbon price increase of about €2.5/tonne per year, assuming that the price in 2020 averages €30/tonne.

Impact on Cyprus

Higher carbon prices act as an incentive for businesses to switch to cleaner production and reduce emissions. This is what has prompted Cyprus to switch power production to natural gas. But, leaving aside the highly-flawed contract award process for natural gas use, this will not be a panacea.

Assuming that Cyprus’ electricity consumption increases by 1.6 per cent/year, by the end of 2022 carbon emissions could increase to 3.44 million tonnes. Considering an average carbon emission price of €35/tonne would take EAC’s related cost to over €120 million. As this is added to the cost of fuel, it increases costs and the price of electricity.

The arrival of LNG, and switch of power generation to natural gas in 2023, could reduce this cost to about €90 million, still higher than what is expected this year. Without any other measures implemented to reduce emissions, this cost would rise to a staggering €150 million in 2030, corresponding to an increase of about 8 per cent/year. This begs the question: why is Cyprus not accepting the interim LNG offer made by Oslo-based Hoegh LNG, especially now that LNG prices and FSRU leasing costs are still so low. Over two years, the combined savings from lower fuel and carbon emission costs could lead to overall savings of around €200 million.

The import of LNG will not be sufficient on its own to reduce electricity prices to Cypriot consumers and industry. Only the large-scale implementation of renewables can do that. With the EU determined to drive the cost of emissions up, Cyprus will eventually have to respond.