ANALYSIS: Korea’s ETS may be long, and looming reforms could bring even more supply

Published 16:59 on April 19, 2016  /  Last updated at 16:59 on April 19, 2016  /  Asia Pacific, South Korea  /  No Comments

Details are emerging that South Korea’s emissions trading scheme may be over-supplied despite industry protests surrounding allowance allocations, but the government is still expected to intervene to boost supply.

Details are emerging that South Korea’s emissions trading scheme may be over-supplied despite industry protests surrounding allowance allocations, but the government is still expected to intervene to boost supply.

Initial 2015 data suggests the ETS may be long, sources told Carbon Pulse, calling into question industry’s ongoing claims that they have been given 10-20% fewer CO2 allowances than they need.

Lobby groups and companies have filed over 40 lawsuits against the government demanding more Korean Allowance Units (KAUs) since the ETS was launched in Jan. 2015.

This legal action that has been blamed for deterring sellers and driving prices up to 18,450 won ($16.30, €14.40), making the scheme’s allowances the most expensive in the world.

But analysis by Seoul-based consultancy and brokerage THE ITC suggests the companies in the market that were short only received 3% fewer allowances than their emissions last year. In addition, a number of companies were long.

THE ITC studied emission reports, allocation levels and carbon statements from around 200 ETS participants accounting for some 87% of the emissions covered by the scheme.

It found that some sectors such as steel and paper enjoyed a small surplus, while others such as non-ferrous metals were short. For electricity generation, the result was mixed, the firm said.

The companies that were short reported total carbon-related liabilities of 198 billion won ($175 million). At an estimated KAU price of 12,000 won – where the price was in early 2016 when most companies finalised their annual reports – that would indicate an overall shortage of around 16.4 million tonnes – or 3% of the market’s cap.

In addition, most of the under-supplied companies were short by less than 10%.  That’s a key number in the Korean ETS because companies can borrow 10% from next year’s allocation, a move that may be considered prudent because of the expected increases in allocation levels for next year.

MINISTERIAL COMMITTEE

Faced with industry complaints of shortage, an inter-ministerial committee last week met to decide whether to release some of the allowances held in reserve for price stability purposes, in order to help ease the alleged supply squeeze.

However, a well-placed source told Carbon Pulse that the committee concluded that the intervention would be unnecessary because verified emissions submitted by ETS companies showed they had emitted less than the amount of allowances that had been allocated.

“The government is seeing data showing that the market was long,” said the source, who asked not to be named because of the sensitivity of the meeting.

The source added a small number of companies may receive more allowances ahead of the June 30 compliance deadline because they were said to face severe shortages.

The Ministry of Environment, which has released little information on the ETS beyond the allocation plan, was not immediately available to comment.

PRICE TOO HIGH?

According to Jin Kim with THE ITC, the 2015 emissions data could put pressure on KAU prices, currently at 18,450 won and well above the government’s initial expectation of around 10,000 won.

“I think the current KAU price is too high, but we may not see any meaningful drop until the compliance deadline in June because of the low liquidity,” he told Carbon Pulse.

“But there are many signs that can trigger a drop in the unit price, and companies see this as well. We expect more supply and less-than-expected demand.”

There are also indications supply is increasing.

Over the past week, nearly 90,000 KAUs have traded on the secondary market, compared to 345,000 in the previous 15 months – most of which came during two bumper days last year.

“Some companies with a surplus are changing their strategy and have decided to sell their surplus allowances now instead of banking them into the future. They think 18,450 won is a pretty good price,” Kim said.

ALLOCATION BUMP?

While the 2015 data may have prevented the government from considering short-term intervention, there are longer-term reform measures on the horizon that observers expect will boost supply over the next few years.

In February, the government decided to shift responsibility for the ETS away from the Ministry of Environment to the Ministry of Strategy and Finance.

This move will officially take place in June, raising the prospect of the government both issuing more Early Action Credits and potentially allowing international offsets.

Market participants expect the more business-friendly strategy ministry to increase allocation when it takes over to ensure the ETS does not unnecessarily hamper an already struggling national economy.

But even if the new regulators think twice after seeing the 2015 data, the government is to draw up a new emissions reduction trajectory for the ETS in line with the country’s recent decision to abandon its 2020 target of keeping CO2 30% below BAU levels.

“[The government] will draw up a new greenhouse gas mitigation roadmap this summer, and that means we will probably see additional allocation levels next year, depending on how many more new coal plants are added to the grid,” said Joo-jin Kim, a lawyer with consultancy ELPS.

In addition, South Korea plans to add about 65% to its coal power capacity over the next few years, and with the old 2020 target gone there is little to stop the government from ratcheting up KAU issuances.

For that reason, many companies feel comfortable borrowing their full 10% quota from next year’s allocation, even though under the current ETS plan the number of allowances to be handed out in 2016 is to be cut.

“People expect that the rule change will lower the burden, so several companies are holding off buying at present,” said one trader, who asked not to be named due to company policy.

By Stian Reklev – stian@carbon-pulse.com

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