Kate Mackenzie Why efficiency schemes and markets don’t always mix

India is moving ahead with plans to introduce a tradeable market in energy efficiency certificates, which Bloomberg slightly breathlessly says ‘may reach $16bn in five years‘.

Energy savings targets are certainly a good thing, but the Bloomberg story begs the question as to whether the market for tradeable energy efficiency certificates can ever really reach a sizable amount.

This is how it works: Big, energy-intensive companies are given targets for energy use reduction, or curbing of their growth, and a certificate is issued for each unit of energy saved. If they can’t meet their obligations, they can buy certificates from other companies who exceeded their targets.

Sounds simple, right? If you can’t meet your obligations as cheaply as others, you just buy extra certificates; potentially a good solution to the difficult question of paying for energy efficiency measures.

Several US states and European countries have such a system, where trading in efficiency certificates is permitted to meet targets. One Australian state is also introducing a scheme.

But so far the trade in energy saving certificates hasn’t exactly taken the world by storm.

A 2008 study which looked at ‘tradeable white certicate’ schemes covering energy companies in France, Britain and Italy, found that trading only really took place in Italy:

Contrary to expectations, limited trading is observed so the ‘to-trade-or-not-to-trade’ dilemma is further analysed. A real TWC market has emerged only in Italy, where obliged parties (i.e. energy distributors) show preference towards ‘to-trade’. In Great Britain and France, an autarky compliance approach is identified, with obliged parties (i.e. energy suppliers) showing preference towards ‘not-to-trade’ driven by, among many factors, commercial benefits of non-trading (e.g. increased competitiveness). At the same time, results show clearer indications of cost-effectiveness for Great Britain than for Italy.

The study’s authors carried out interviews with industry participants, and also used game theory to investigate what they call the ‘to trade or not to trade dilemma’. They found that in Britain, companies covered by the efficiency obligations were averse to buying certificates for two main reasons: they wanted to develop their own strategic knowledge of energy efficiency, and they wanted to increase their own competitiveness:

Driven by climate change policies, energy companies have started moving away from the traditional energy supply business. More importantly, customer mobility appears to be the main driving force to use energy efficiency as a strategy to increase client loyalty.

Furthermore, some companies simply didn’t want to appear to support their competitors by buying certificates from them. In France, they found similar reasons for a reluctance to trade – exacerbated by the fact that one company, EDF, had 55 per cent of the entire country’s TWC obligations.

The difference in Italy was that the country’s scheme covered energy distributors, rather than suppliers – so were less exposed to the vagaries of customer mobility, and therefore less motivated to use efficiency knowledge to keep customers.

India, it appears, could be a different case altogether: the scheme there will apparently cover various energy-intensive industries, not just energy companies.

One last thing: the authors stress the importance of a strict overall cap – another reason, they say, for lacklustre trading was simply that the targets in the countries studied were not very ambitious:

In line with some critics in the context of a cap-and-trade scheme for greenhouse gases (cf. Greenspan Bell 2005), we concur with the fact that what really matters in TWC schemes is the ‘target’ as such. Target compliance depends on many factors, among them, a functioning and enforceable regulatory framework. However, a crucial pre-condition to determine the demand level for TWCs is the establishment of mandatory energy saving/efficiency targets. If increased energy efficiency improvements are left to market forces alone, ‘business-as-usual’ trends are likely to be expected.

An interesting point for those advocating climate schemes without cap-and-trade.

Related links:

The bottom line on energy savings certificates (World Resources Institute)