industrial competitiveness impacts of the eu ets · industrial competitiveness impacts of the eu...

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Industrial competitiveness impacts of the EU ETS

EU ETS Review Seminar, Stockholm, 11 Oct 2007

Professor Michael Grubb Chief Economist, the Carbon Trust and Director, Climate Strategies

Senior Research Associate, Faculty of Economics, Cambridge UniversityAnd Visiting Professor, Imperial College

Drawing on research convened by

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Presentation of results from Climate Strategies study

The Differentiation and Dynamics of EU ETS Competitiveness impacts

Karsten Neuhoff, Misato Sato and Michael GrubbEPRG, Faculty of Economics, Cambridge

Convened by:

Faculty of economics

Jean-Charles Hourcade & Damien Demailly, CIRED, Paris

Additional contributions from:Felix Matthes, Oeko-Institute, Berlin and Joachim Eichammer, Fraunhofer ISI Karlsruhe

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Competitiveness is a sector/product issueAt aggregate sector level (using 3 digit (Standard Industrial Classification 92), energy and metals production stand out

Textiles

Food & tobacco

Pulp, Paper, Printing &Publishing

Coke oven, refined petroleum &

nuclear fuel

Chemicals

Cement,lime&

plaster

Basic Metals (incl. Iron & Steel)

Wood

Electricity

Plastic & rubber

Glass & Ceramics

Non-Ferrous Metals

Fabricated metal

Machinery Electrical & optical equipment

Transport equip.0%

5%

10%

15%

20%

0% 10% 20% 30% 40% 50%UK trade intensity from Non-EU

Pote

ntia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke

MVAS: Max.GVA at stake (no free allocation)

NVAS: Net GVA at stake (100% free allocation; exposure to electricity price only)

Assumptions: CO2 price=€20/tCO2; Pass through in electricity = €10/mwh

Vertical range gives insights on:- Marginal cost increase (top end of bar)

-Impact of electricity price pass through

(bottom end of bar)

Combined with horizontal axis gives insights on: - possible dynamics of impacts- Scope for auctioning?

Note: Process emissions and onsite emissions included

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.. And trade intensity within EU is bigger than international trade intensity even for the UK

Textiles

Food & tobacco

Pulp, Paper, Printing & Publishing

Coke oven, refined petroleum

& nuclear fuel

Chemicals

Cement,lime&

plaster

Basic Metals (incl. Iron & Steel)

Wood

Electricity

Plastic & Rubber

Glass & Ceramics

Non-Ferrous Metals

Fabricated metal

Machinery

Electrical & optical

equipment

Transport equipment

0%

5%

10%

15%

20%

0% 10% 20% 30% 40% 50% 60%UK trade intensity from within the EU

Pote

ntia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke

MVAS: Max.GVA at stake (no free allocation)

NVAS: Net GVA at stake (100% free allocation; exposure to electricity price only)


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Convened by:

Subsector analysis

(4-digit SIC code level)

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‘Construction’ sector: cement production dominatesemissions, high MVAS, relatively low NVAS, accountsfor c.10% of aggregated sector value-added

Assumptions: CO2 price=€20/tCO2; Pass through in electricity = €10/MWh

0%

5%

10%

15%

20%

25%

30%

35%

0% 20% 40% 60% 80% 100%Non- EU Trade Intensity

Pot

entia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke (M

VA

S/ N

VA

S)

Man. of cement

Man. of concrete productsfor construction purposes

Man. of plaster products forconstruction purposes

Man. of ready0mixedconcrete

Man. of other articles ofconcrete, plaster andcement

Cutting, shaping andfinishing of stone

Production of abrasiveproducts

Man. of other non0metallic.mineral products n.e.c

Man. of lime

Manufacture of cement(SIC 26.51); GVA £409million (2004)

Total sector GVAin 2004

£3,359 million

Manufacture of lime (SIC 26.52); GVA £26 million (average 1997-1999)MVAS 126%

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Iron and Steel: Basic Iron & Steel production (blast furnace) dominates emissions, MVAS c.25%, c.10xNVAS, accounts for half sector value-added


0%

5%

10%

15%

20%

25%

30%

0% 20% 40% 60% 80% 100%Non-EU Trade Intensity

Pote

ntia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke (M

VAS/

NVA

S)

&Man.of basic ironsteel and of)ferro0alloys (ECSC

Man. of cast iron tubes

Man. of steel tubes

Cold draw ing

Cold rolling of narrowstrip

Cold forming or folding

Wire draw ing

Casting of iron

Casting of steel

Manufacturing of basic iron and steel (SIC 27.10); GVA £1,064million (2004) MVAS 27%.

Total Sector GVA in 2004

£2,139 million

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Assumptions: CO2 price=€20/tCO2; Pass through in electricity = €10/MWhh

0%

2%

4%

6%

8%

10%

12%


Manufacturing of refined petroleum (SIC 23.20);GVA £2,300 million (2005)*

Pot

entia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke (M

VA

S/ N

VA

S)

Total sectoral GVA

for 2004£2,627 million

Manufacturing of coke oven products (SIC 23.10); GVA £10 million (average of 1998- 2002).

Energy processing dominated by refineries

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Other sectors tend to more complex substructure with more product diversity & lower carbon intensity of most processes

Food, beverage tobaccoTextiles & leatherWood, paper and pulpChemicalsPlastics and rubberGlass and ceramicsNon-ferrous metals (high electricity intensity)

Total of 159 product categories examined

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Pote

ntia

l max

imum

gro

ss v

alue

add

ed a

t sta

ke (M

VAS

)an

d ne

t gro

ss v

alue

add

ed a

t sta

ke (N

VAS)

Cem

ent

Basi

c iro

n &

stee

lLime

Fertilisers & Nitrogen

Alu

min

ium

Other inorganicbasic chemicals

Pulp &Paper

MaltCoke oven

Industrial gasesNon-wovens

Refined petroleum

Household paper

Hollow glass

Finishing of textiles

Rubber tiers & tubes

CopperCasting of iron

UK GDP

Allocation dependent (direct) CO2 costs / GVAElectricity (indirect) CO2 costs / GVA

Price increase assumption: CO2 = €20/t CO2; Electricity = €10/MWh

Flat glassVeneer sheets

0%

10%

20%

30%

40%

0.0% 0.2% 0.4% 0.6% 0.8% 1.0%

4%2%Po

tent

ial m

axim

um g

ross

val

ue a

dded

at s

take

(MVA

S)

and

net g

ross

val

ue a

dded

at s

take

(NVA

S)

Cem

ent

Basi

c iro

n &

stee

lLime

Fertilisers & Nitrogen

Alu

min

ium

Other inorganicbasic chemicals

Pulp &Paper

MaltCoke oven

Industrial gasesNon-wovens

Refined petroleum

Household paper

Hollow glass


Rubber tiers & tubes

CopperCasting of iron

UK GDP

Allocation dependent (direct) CO2 costs / GVAElectricity (indirect) CO2 costs / GVA

Price increase assumption: CO2 = €20/t CO2; Electricity = €10/MWh

Flat glassVeneer sheets

0%

10%

20%

30%

40%

0.0% 0.2% 0.4% 0.6% 0.8% 1.0%

4%2%

CO2 cost screen: Sectors potentially exposed under unilateral CO2 pricing

Hourcade et.al. Differentiation and dynamics of EU ETS industrial competitiveness impacts.

Cement & BOS steel stand out, in total, 23 product categories representing c.1% of UK GDP have MVAS>4% or NVAS>2% at €20/tCO2

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Convened by:

Intepretation of subsectoranalysis

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Cement and Basic Iron and Steel

MVAS in the range 25-35% of total value added implies EU ETS will have significant impact on sector economicsNVAS of c.2% (cement) – 3.5% (steel) implies that 100% free allocation will keep the gross cost impact “within the noise” compared to other temporal and geographical influences on costsBoth have carbon-intensive intermediate product: clinker (for cement), coke (for steel)With fixed allocation:– Huge tension in pricing decisions between short-run profit

maximisation, and long-run market share protection– Strong incentive for leakage: import the finished or

intermediate product, and sell the surplus allowances

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Constraints on refining sector likely to make any trade & relocation impacts trivial

No new refining capacity under consideration in EuropeCost of trade in refined products is much higher than crude (specialised transport and containment requirements, etc) Existing trade of refined products is largely a transatlantic swap of diesel for gasoline driven by the chemistry of crude set against intrinsic market differences

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Other sectors (other than non-ferrous metals)

A few individual product sectors may have high MVAS or NVAS– Chemicals very complex (seeking deeper analysis),

preliminary suggests that most of the carbon-intensive products are not very amenable to international trade (e.g. as industrial gases); fertilizer the biggest potential exception

– Pulp a complex issue (UK not a big player)

Competitiveness concerns for EU ETS Phase III can be confined to product-specific analysis of between 2-5 main products, dominated by cement, and basic iron & steel

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Convened by:

Deeper Dive

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Some principles for addressing leakage and competitiveness concerns

Focus on sector specifics not generalised solutionsFocus on leakage, not competitiveness per se:– Much sharper focus on EU ETS-related impacts

rather than generalised pleas for protection– Aligns environmental with economic concerns

For the period 2012-2020, acknowledge case for concern in cement and BOS Steel, that may be (imperfectly) addressed through free allocation if other avenues are not developedOther key sectors (mainly basic chemicals, pulp&paper, refining) should be monitored for evidence-basedassessments of impacts, not driven by projectionsPolitical judgement may be needed on whether to trouble for a few other specific subsectors/products, that are macroeconomically trivial (<< 0.1% GDP)

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Cement already faces widely divergent domesticprices

Climate Strategies – IDDRI Meeting13th September 2007

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.. So analysis of potential EU ETS trade impacts needs needs to understand the intrinsic trade barriers (& drivers)


Road cost, sea cost, storage facility

Anti-competitive behaviours.

Balance on the markets abroad (& domestic)

Risk: retaliation, market immaturity…

Colour, strenght, workability, consistency…

Availability, vertical integration, price stability…

International Pressure on EU market

Diff

eren

cein

ope

ratin

g co

sts

betw

een

the

EU a

nd th

e R

oW

Transport

Consumption / Capacity

Import restriction

Cost of instability

Product differentiation

Service differentiation

Trad

e B

arrie

rs

NB: Barriers are lower for EU transnational firms

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What about relocation?


Currently, there are no (few) export capacities.

15

25

35

45

55

10

15

20

25

30

35

South East Asia-US Gulf Handymax Transatlantic US East Coast-US Gulf Handysize

Freigth Rates in $/to : Asia to USA

Freigth Rates in $/to : Europe to USA

Asian route Spot rate is 34$/t above historical

average of 17$/tEuropean route Spot rate is 18$/t above historical average

of 12$/t

20042003200220012000Source: Exane

$/t cement

15

25

35

45

55

10

15

20

25

30

35






of 12$/t

20042003200220012000

15

25

35

45

55

10

15

20

25

30

35






of 12$/t

20042003200220012000Source: Exane

$/t cementCement sea costs

Euro exchange rate vs US Dollars

60

70

80

90

100

110

120

janv-93

janv-94

janv-95

janv-96

janv-97

janv-98

janv-99

janv-00

janv-01

janv-02

janv-03

janv-04

janv-05

janv-06

janv-07

Is the picture changing? Some EU firms are considering the relocation of part of their activity.

Relocation barriers≈

trade barriers+

an important « cost of instability »

New long run investments, made sensitive tofluctuations in tariffs (see export taxes in Turkeyor China in 2007), exchange rates, or transport costs.

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Steel sector analysis


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A world market fragmented?Confirmation by trade data


The world market appears fragmented into regional markets partially interconnected through price.

0

20

40

60

80

100

120

140

160

180

EUROPE EUROPE AMERICA AMERICA ASIA ASIA

Export to Import from Export to Import from Export to Import from

MT

OthersASIAAMERICAEUROPE

Steel trade across Regions

Source: IISI (2007)

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Trade barriers in steel



Diff

eren

cein

ope

ratin

g co

sts

betw

een

the

EU a

nd th

e R

oW

Transport


Import restrictionCost of instability



Trad

e B

arrie

rs

Import and export tariffs, standards

Proximity with consumers, different stages of tech developments…

Just in time delivery, technical assistance…


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Future Challenges


1. Does the 2006 surge in imports signal the start of a continuous decline of trade barriers? Further analysis would be required as part of this rise may beattributed to:

• The apparition of (transitory) excess capacities abroad, notably in China. • The EU rise in consumption (+10% between 2005 and 2006), especially in Italy.

2. Internationalisation of firms: better ability of taking advantage of cost differences Relocation?

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Steel: Relocation issues


Nowadays most of steel plants are built to supply the local markets.

The sustainability of this situation is not guaranteed for BOF semis: high cost differences across countries, relatively low product differentiation.

What scale of relocation for BF semis? Controversial. Relocation barriers:

• Social viscosity, sunk costs and current boom slow down process;• Semis are differentiated products;• Countries are reluctant to host export plants; • The production chain is made sensitive to risks.

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Modeling analysis of impacts on steel and cement


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Sector impacts: modeling analysis (cement and steel)


Three cost increase:

• The electricity cost increase due to the rise in electricity prices;

• The abatement cost due to the efforts made to reduce the unitary emissions;

• The emission cost: depends on the allocation methodology and the behaviour of firms vis-à-vis the opportunity cost of free allowances.

Three extreme scenarios for the allocation methodology:

• Full auctioning (labelled AU);

• Full free allowances with opportunity cost (Free Eco)

• Full free allowances without opportunity cost (Free Ind)

Three CO2 prices tested: 15 (Phase 2 expectations), 30 and 45€/t.

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Cost ImpactFrom the modelling work


CO2 price (€/t)

Cos

tinc

reas

e(€

/t)

15 30 45

10

20

30

40

Costincrease

(%)

20

40

60

Auction or Free Eco

Free Ind

ElectricityAbatementEmission

CO2 price (€/t)

Cos

tinc

reas

e(€

/t)

15 30 45

10

20

30

40

Costincrease

(%)

20

40

60

Auction or Free Eco

Free Ind

ElectricityAbatementEmission

EU ETS impact on average EU cement costs

• The emission cost dominatesunder AU or Free Eco

• The cost impact is very high.

• Under Free Ind, the emissioncost is positive (we assume a 10% emission reduction target) and non negligible.

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Cost ImpactFrom the modelling work


CO2 price (€/t)

Cos

tinc

reas

e(€

/t)

15 30 45

20

60

Costincrease

(%)

5

10

15ElectricityAbatement

Auction or Free Eco

Free Ind

Emission

40

CO2 price (€/t)

Cos

tinc

reas

e(€

/t)

15 30 45

20

60

Costincrease

(%)

5

10

15ElectricityAbatement

Auction or Free Eco

Free Ind

Emission

40

EU ETS impact on average BOF steel costs

• The emission cost dominatesunder AU or Free Eco

• The cost impact is high.

• Under Free Ind, the emissioncost is negative. The overall cost isnegligible.

We focus on BOF as EAF is identified as much less sensitive:• Generally less exposed to international competition;• Relatively low CO2 intensity.

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SUPPORTING MATERIAL


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Convened by:

Subsector analysis

(4-digit SIC code level)

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4 digit: Food, Beverage and Tobacco


0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

0% 20% 40% 60% 80% 100%Non - EU Trade Intensity

Pot

entia

l max

imum

and

net

gro

ss v

alue

add

ed a

tst

ake

(MV

AS

/ NV

AS

)

P roduction and preserving of meat

Production and preserving of poultrymeatProduction of meat and poultrymeat products

Processing and preserving of fish and fish productsProcessing and preserving of potatoes

M an. o f fruit and vegetable juice.Processing and preserving of fruit and vegetables n.e.c

M an. o f crude o ils and fats

M an. o f refined o ils and fatsM an. o f margarine and similar edible fatsOperation of dairies and cheese making

M an. o f ice creamM an. o f grain mill products

M an. o f starches and starch productsM an. o f prepared feeds for farm animals

M an. o f prepared pet foodsM an. o f bread; fresh pastry goods and cakes

M an. o f rusks and biscuits; preserved pastry goods and cakesM an. o f cocoa; chocolate and sugar confectioneryProcessing of tea and coffee

M an. o f condiments and seasonings

.M an. o f o ther food products n.e.cM an. o f distilled potable alcoholic beverages

M an. o f beerM an. o f malt

Production of mineral waters and soft drinksM an. o f tobacco products

Total Sector GVA for 2004

£22,516million

Manufacturing of malt (SIC15.97);GVA £64million (2004)

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4 digit: Textiles and Leather


0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

0% 20% 40% 60% 80% 100%

Non-EU Trade Intensity

Pote

ntia

l max

imum

and

net

gro

ss v

alue

add

edat

sta

ke (M

VAS/

NVA

S)

P reparation & spinning of worsted0type fibres

Preparation & spinning of flax0type fibres

Throwing,preparation&texture of silk,synthetic/artificial filament yarn

M an. o f sewing threads

Cotton0type weaving

Woollen0type weaving

Worsted0type weaving

Silk0type weaving

Other textile weaving


M an. o f made0up textile articles, except apparel

M an. o f carpets and rugs

M an. o f cordage, rope, twine and netting

M an.of non0wovens& articles made from non0wovens except apparel

.M an. o f o ther textiles n.e.c

M an. o f knitted and crocheted hosiery

M an. o f leather clo thes

M an. o f workwear

M an. o f o ther outerwear

M an. o f underwear

.M an. o f o ther wearing apparel and accessories n.e.c

Dressing &dyeing of fur; man. o f articles of fur

Tanning and dressing of leather

M an. o f luggage, handbags and the like, saddlery& harness

Finishing of textiles(SIC 17.30)GVA £230million (2004)

Total sector GVA in 2004

£4,150 million

Manufacturing of non-wovens; (SIC 17.53)GVA £45million (2004)

Other textile weaving (SIC 17.25)GVA £6million (2004)

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4 digit Wood, Paper and Pulp


0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%


Pote

ntia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke (M

VAS/

NVA

S)

Saw milling & planing of w ood; impregnation ofw ood,Man.of veneer sheets,plyw ood, laminboardparticle board, f ibre board etcMan. of builders' carpentry and joinery

Man. of w ooden containers

Man. of other products of w ood

Man. of articles of cork, straw and plaitingmaterialsMan. of pulp, paper and paperboard

Man.of corrugated paper, paperboard, containers

Man.of household and sanitary goods & of toiletrequisitesMan. of paper stationery

Man. of w allpaper

.Man.of other articles of paper & paperboard n.e.c

Publish. books

Publish. new spapers

Publish. journals and periodicals

Publish. sound recordings

Other publishing

.Printing n.e.c

Composition and plate0making

Total Sector GVA for 2004

£22,428million

Manufacturing of pulp, paper and paper borad (SIC 2111 and 2112); GVA £788 million, (2004)

Manufacturing of household sanitary goods (SIC 21.22); GVA £554 million (2004).

Manufacturing of veneer sheets, plywood etc. (SIC 2020); GVA £275 million (2004)

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4 digit Chemicals


0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

11%

12%

0% 20% 40% 60% 80% 100%NON EU trade Intensity

Pot

entia

l val

ue a

t sta

ke (G

VAS

/ M

VA

Sun

der 0

to 1

00%

free

allo

catio

n

M an. o f fertilizers and nitrogencompounds

M an. of o ther organic basic chemicals

M an. of o ther inorganic basic chemicals

M an. of dyes and pigments

M an. of industrial gases

M an. of plastics in primary forms

M an. of synthetic rubber in primary forms

M an. of pesticides and o theragro0chemical productsM an. of paints,varnishes, similarcoatings, printing ink and mastics

M an. of basic pharmaceutical products

M an. of pharmaceutical preparations

M an. of perfumes and to ilet preparations

M an. of explosives

M an. of glues and gelatines

M an. of essential o ils

M an. of photographic chemical material

M an. of prepared unrecorded media

.M an. of o ther chemical products n.e.c

M an. of man0made fibres

M an. of soap and detergents, cleaningand polishing preparations

Manufacturing of fertilisers and nitrogen compounds (SIC 24.15);GVA £169 million (2004)

Total Sectoral GVA in 2004

£16,060 million

Manufacturing of inorganic basic chemicals (SIC 24.13);GVA £393million (2004)

Manufacturing of industrial gases (SIC 24.11);GVA £450million (2001)

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4 digit Plastic and Rubber


0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

0% 20% 40% 60% 80% 100%

Non-EU trade Intensity

Pote

ntia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke (M

VAS/

NVA

S)

Manufacture of rubbertyres and tubes

Retreading and rebuildingof rubber tyres

Manufacture of otherrubber products

Manufacture of plasticplates, sheets, tubes andprofilesManufacture of otherplastic products

Manufacture of plasticpacking goods

'Manufacture of buildersw are of plastic

Total Sectoral GVA in 2004

£7,842 million

Manufacturing of rubber tyres and tubes (SIC 25.11); GVA £562 million (2004)

Retreading and rebuilding of rubber tyres (SIC 25.12); GVA £29 million (2004)

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4 digit Glass and Ceramics


0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

0% 20% 40% 60% 80% 100%Non- EU Trade Intensity

Pot

entia

l max

imum

and

net

gro

ss v

alue

add

ed a

t sta

ke (M

VA

S/ N

VA

S)

M anufacture of flat glass

Shaping and processing of flat glass

M anufacture of ho llow glass

M anufacture of glass fibres

M anufacture and processing of o therglass, including technical glassware

M anufacture of ceramic household andornamental articles

M anufacture of ceramic sanitary fixtures

M anufacture of o ther ceramic products

M anufacture of refractory ceramicproducts

M anufacture of ceramic tiles and flags

M anufacture of bricks, tiles andconstruction products, in baked clay

M anufacture of o ther technical ceramicproducts

Total sector GVA in 2004

£2,451 million

Manufacture of hollow glass (SIC 26.13);GVA £329 million (2002 data)

Manufacture of flat glass (SIC 26.11);GVA £159 million (2002 data)

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4 digit Non-Ferrous Metals


0%

2%

4%

6%

8%

10%


Pot

entia

l val

ue a

t sta

ke (G

VA

S /

MV

ASun

der 0

to 1

00%

free

allo

catio

n

Precious metalsproduction

Aluminiumproduction

Lead, zinc andtin production

Copperproduction

Othernon0ferrousmetal production

Total Sector GVA in 2004

£1,309 millionAluminium production (SIC 27.42); GVA £444 million (2004)

Copper production (SIC 27.44); GVA £131 million (2004)

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Convened by:

Supporting material:

UK-EU comparators

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0%

5%

10%

15%

20%

25%E

U 2

7

Uni

ted

Kin

gdom

Bel

gium

Bul

garia

Cze

ch R

epub

lic

Den

mar

k

Ger

man

y

Est

onia

Irela

nd

Spa

in

Fran

ce Italy

Cyp

rus

Latv

ia

Hun

gary

Net

herla

nds

Aus

tria

Pol

and

Por

tuga

l

Rom

ania

Sec

tor s

hare

of n

atio

nal G

VA

Metal

Basic Metal

Cement

Plastic

Chemicals

Refining

Publishing

Paper

Wood

Textile

Tobacco

Food

Figure 30 Share of sectors analysed in this chapter of the GDP of EU countries

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Trade intensity of top 23 sectors with Non-EU and EU countries in UK and Germany

0% 20% 40% 60% 80% 100% 120% 140% 160% 180% 200%

Casting services of iron

Throwing, preparation & texture of silk,filament yarn

Copper production


Flat glass

Veneer sheets, plywood, laminboard, particle & fibre board

Retreaded pneumatic tyres, of rubber

New rubber tyres

Hollow glass

Textile finishing services

Household & toilet paper & paper products

Refined petroleum products

Nonwovens & articles made from nonwovens, except apparel

Industrial gases

Coke oven products

Malt

Pulp, paper & paperboard

Other basic inorganic chemicals

Aluminium & aluminium products

Fertilizers & nitrogen compounds

Basic iron & steel & ferro-alloys

Cement

LimeUK non-EU UK EUG non-EU G EU

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Ratio of energy expenditure relative to gross value added in Germany and UK

0%

10%

20%

30%

40%

50%

60%

70%

Lime

Cement

Basic ir

on & ste

el & fer

ro-allo

ys

Fertilize

rs & nit

rogen

compou

nds

Aluminiu

m & aluminiu

m produc

ts

Other ba

sic ino

rganic

chem

icals

Pulp, pa

per & pa

perboa

rd Malt

Coke ov

en pro

ducts

Indust

rial ga

ses

Nonwove

ns & art

icles m

ade fro

m nonw

ovens,

excep

t appar

el

Refined

petrole

um pro

ducts

Househo

ld & toi

let pap

er & pa

per pro

ducts

Textile

finishi

ng ser

vices

Hollow gla

ssNew

rubber

tyres

Retreade

d pneu

matic tyr

es, of

rubber

Veneer s

heets,

plywood

, laminb

oard, p

article

& fibre b

oard

Flat gla

ss

Other te

xtile w

eaving

Copper p

roduct

ion

Throwing

, prepa

ration

& texture

of silk

,filament

yarn

Ener

gy E

xpen

ditu

re /

GV

A

UKUK (using German energy shares)Germany

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Value at stake for Germany and UK

0% 5% 10% 15% 20% 25% 30% 35% 40%

Casting services of iron

Throwing, preparation & texture of silk,filament yarn

Copper production


Flat glass

Veneer sheets, plywood, laminboard, particle & fibre board


New rubber tyres

Hollow glass

Textile finishing services

Household & toilet paper & paper products


Nonwovens & articles made from nonwovens, except apparel

Industrial gases

Coke oven products

Malt






Cement

Lime

UK indirect UK directG indirect G direct

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Share of gross value added in the turnover for German sectors

0%

10%

20%

30%

40%

50%

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

Lime

Cement






Malt

Coke oven products

Industrial gases

Nonwovens & articles made fromnonwovens, except apparel

0%

10%

20%

30%

40%

50%

1995 1997 1999 2001 2003 2005


Household & toilet paper & paperproductsTextile finishing services

Hollow glass

New rubber tyres


Veneer sheets, plywood, laminboard,particle & fibre boardFlat glass


Copper production

Throwing, preparation & texture ofsilk,filament yarnCasting services of iron

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Share of investments in the turnover for German sectors

0%

2%

4%

6%

8%

10%

12%

14%

16%

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

Lime

Cement






Malt

Coke oven products

Industrial gases

Nonwovens & articles made fromnonwovens, except apparel

0%

5%

10%

15%

20%

25%

30%

1995 1997 1999 2001 2003 2005


Household & toilet paper & paperproductsTextile finishing services

Hollow glass

New rubber tyres


Veneer sheets, plywood, laminboard,particle & fibre boardFlat glass


Copper production

Throwing, preparation & texture ofsilk,filament yarnCasting services of iron

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Convened by:


Evolution of recent trade patterns

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0

10

20

30

40

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

Mt o

f cem

ent

A high domestic market share

• A share of these imports is controlled by EU firms.

• We come back to the observedrise later.

• Even in 2006, Import ratio maybe considered as low given the important price differences acrosscountries.


Extra EU

Intra EU

Non EU Import ratio:

3%

8%

Source: Eurostat

EU cement & clinker imports

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0

5

10

15

20

25

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Mt o

f cem

ent

SPAIN

ITALY

PORTUGALHUNGARY BULGARY

FRANCE OTHERS0

5

10

15

20

25

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Mt o

f cem

ent

SPAIN

ITALY

PORTUGALHUNGARY BULGARY

FRANCE OTHERS

Is the picture changing?« The rise in non EU imports »


The rise in Spanish and Italian imports is mainly explained by local factors, not by a reduction of trade barriers:• a high consumption growth, +130% and +60% respectively, unlikely to persistover a long time;• a lack of new investment: transitory boom expected, bad forecasts

Source: Eurostat

Destination of non EU Imports

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Is the picture changing?« The recent surge in Chinese imports »


0

2

4

6

8

10

12

14

16

18

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Mt o

f cem

ent

VENEZUELARUSSIA

INDIATHAILAND

EGYPT

TURKEY

CHINE

CROATIA

OTHERS0

2

4

6

8

10

12

14

16

18

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Mt o

f cem

ent

VENEZUELARUSSIA

INDIATHAILAND

EGYPT

TURKEY

CHINE

CROATIA

OTHERS

Source: Eurostat

Chinese imports do not add themselves to the other sources of imports. Chinese cement is mainly substituting for Turkish and Egyptian cement.Non EU imports keep increasing at the same pace, driven by continued Spanish and Italian consumption growth.

Origin of non EU Imports

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Convened by:


Structure and trade trends in the EU Steel sector

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Part 1

1 – General trends in the absence of the EU ETS

B – The EU Steel sector


Long products~ Electric Arc Furnace

EAF

Flat products~ Basic Oxygen Furnace

BOF

~50% ~50%

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Despite important operating cost differencesacross countries, EU market share is high


0

10

20

30

40

1999 2000 2001 2002 2003 2004 2005 2006

Mt

Flat products:

Long products:

Import ratio

Import ratio

14%24%

10%

14%

EU Imports from outside the EU

Source: Eurostat

Moreover, the EU net exports (exports – imports) are positive.

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High international pressure on EU prices?


0

100

200

300

400

500

600

700

800

janv-00 janv-01 janv-02 janv-03 janv-04 janv-05 janv-06 janv-07

USD

/T

EU CHINA CIS LAM TURKEY

Export prices for Hot Rolled Coil

Source: Datastream

EU prices are mainlydetermined by the

prices abroad?

If this were true: the EU pricemenus the price abroadshould be roughly constant

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Moderate international pressure on EU prices


-150

-100

-50

0

50

100

150

200

janv-00 janv-01 janv-02 janv-03 janv-04 janv-05 janv-06 janv-07

USD

/T

EU-CHINA EU-CIS EU-LAM EU-TURKEY

EU export price menus RoW export prices for HRC

Source: Datastream

An econometric study on the EU Basic Metals sector, led by Gerald and Scott (2007), concludes that:

The international price has a strong influence on the EU price. The influence of the domestic cost is similarly

strong.

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A world market fragmented?Confirmation by trade data


The world market appears fragmented into regional markets partially interconnected through price.

0

20

40

60

80

100

120

140

160

180

EUROPE EUROPE AMERICA AMERICA ASIA ASIA

Export to Import from Export to Import from Export to Import from

MT

OthersASIAAMERICAEUROPE

Steel trade across Regions

Source: IISI (2007)

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Trade barriers



Diff

eren

cein

ope

ratin

g co

sts

betw

een

the

EU a

nd th

e R

oW

Transport


Import restrictionCost of instability



Trad

e B

arrie

rs

Import and export tariffs, standards

Proximity with consumers, different stages of tech developments…

Just in time delivery, technical assistance…


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Future Challenges


1. Does the 2006 surge in imports signal the start of a continuous decline of trade barriers? Further analysis would be required as part of this rise may beattributed to:

• The apparition of (transitory) excess capacities abroad, notably in China. • The EU rise in consumption (+10% between 2005 and 2006), especially in Italy.

2. Internationalisation of firms: better ability of taking advantage of cost differences Relocation?

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Relocation


Nowadays most of steel plants are built to supply the local markets.

The sustainability of this situation is not guaranteed for BOF semis: high cost differences across countries, relatively low product differentiation.

What scale of relocation for BF semis? Controversial. Relocation barriers:

• Social viscosity, sunk costs and current boom slow down process;• Semis are differentiated products;• Countries are reluctant to host export plants; • The production chain is made sensitive to risks.

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Part 2

2 – Impact of the EU ETSA – Impact on production costs


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Part 2


What is the pass through ability of the EU cement and steel sectors?

2 – Impact of the EU ETSB – Insights from economics literature on the

pass through

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The determinants of pass through


EU production level EU capacity

Marginal production cost

Demand to EU producers

Cost increase

Price increase

EU production level EU capacity

Marginal production cost

Demand to EU producers

Cost increase

Price increase

Pass through under perfect competition

The steeper the EU marginal cost curve, the lower the pass through

The steeper the demand to EU producers, the higher the pass through. Trade barriers makethis curve steep.

Effect of market power • EU market power reduces the pass through? True under some particularassumptions on the demand curve (not too convex).• RoW market power increases the EU pass through: exporters have interestin not flooding the EU market to benefit from higher margins.

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Exogeneous & endogeneous pass through in applied models


Study Sector PT Main assumptions

Szabo et al. (2006) – IPTSHidalgo et al. (2003) – IPTS

CementSteel

100%100%

??

Smale et al. (2006) CementSteel

~ 80%65%

Market power linear demand

Demailly and Quirion (2006) Cement ~ 75% Market power linear demand, capacity constraint, transport costs.

McKinsey and Ecofys (2006) CementBOF SteelEAF Steel

0-15%6%66%

???

Mathiesen and Maestad (2004) BOF SteelEAF Steel

60%80%

Capacity constraint, transport costs and productdifferentiation

Reinaud (2004) CementSteel

0 - 100%0 - 100%

? NB: Average cost pricing? NB: Average cost pricing

Manne and Mathiesen (1994) Aluminium 40% Singificant despite perfect substitution and because of capacity constraint abroad

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Empirical literature (1)


Walker (2006) assesses the pass through of the EU ETS opportunity cost during2005: it varies between 10 and 40%. However, difficult to disentangle between; • The role of the international pressure and • What reduces the opportunity cost (updating, notion of opportunity cost)

Gerald and Scott (2007)Non-Metallic Minerals: The World price is "nowhere significant in explaining movements in the [EU] prices”. Conversely, EU "domestic costs significantly determine a substantial portion of these (…) prices".

Basic Metals sector. The world price has a strong and significant influence on EU prices. The influence of domestic costs is similar. The European price is a more important determinant: “This indicates that environmental tax (…) applied across the EU would limit the effect on competitiveness”.

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Empirical literature (2)


Literature on Exchange Rate Pass ThroughThis estimates the pass through of exporters into their prices for foreign consumers, following a shock on exchange rates. This shock is asymmetric and incurred by few producers, as exporters generally have low market shares on foreign markets.

However, values for relative pass through are not negligible:For cement: 20% in Gaulier et al. (2006), 40% in Knetter (1993) For steel: 40% in Gaulier et al. (2006), 50% in Athukorala and Menon (1994)

The literature gives support to the assumption of significant pass through in both sectors: high pass through in the cement sector, intermediate for the steel sector.

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Part 2


What would be the impact on the two dimensions of competitiveness?

2 – Impact of the EU ETSC – Short run impacts: Insights from a simple

modelling framework

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Modelling assumptions


• Time Horizon: 2015

• Geographical aggregation : EU 27

• Products: BOF steel products are aggregated. Cement products are aggregated.

• Electricty cost increase: 80% pass-through in the electricity sector

• Abatement cost: Marginal Abatement Cost Curve from PRIMES

• Demand drop: depends on the demand elasticity (ε)

• Price increase: depends on the Pass Through

• Market share loss: depends on a trade elasticity (σ), called the Armington elasticity.

KEY PARAMETERS FOR COMPETITIVENESS

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The Armington specification


0

20

40

60

80

100

120

140

160

0,50 0,75 1,00 1,25 1,50 1,75 2,00

EU Price / RoW Price

Mt o

f BO

F st

eel

EU Demand to EU Producers

EU Demand to RoW Producers

σ =5 σ =0.5

σ =2.75 σ =2.75

σ =5σ =0.5

0

20

40

60

80

100

120

140

160

0,50 0,75 1,00 1,25 1,50 1,75 2,00


Mt o

f BO

F st

eel



σ =5 σ =0.5

σ =2.75 σ =2.75

σ =5σ =0.5

0

50

100

150

200

250

300

0,50 0,75 1,00 1,25 1,50 1,75 2,00


Mt o

f cem

ent



σ =2.8

σ =1.6

σ =1.6

σ =0.4

σ =2.8

σ =0.4

0

50

100

150

200

250

300

0,50 0,75 1,00 1,25 1,50 1,75 2,00


Mt o

f cem

ent



σ =2.8

σ =1.6

σ =1.6

σ =0.4

σ =2.8

σ =0.4

0

50

100

150

200

250

300

0,50 0,75 1,00 1,25 1,50 1,75 2,00


Mt o

f cem

ent



σ =2.8

σ =1.6

σ =1.6

σ =0.4

σ =2.8

σ =0.4

Armington specification based on the assumption that products are differentiatedaccording to their place of production debatable for cement.

However, in practice, the value of the Armington elasticity reflects all the tradebarriers between different countries. It is econometrically tested.

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Scenarios


Three scenarios for the international pressure :

• Zero pass through scenario.

• Complete pass through scenario. The value of the Armington elasticity is the highest found in the literature.

They are built to lead to the highest profit margin or market share losses

• Central or Half pass through scenario: The value of the Armington elasticity is the mean of the range of estimates we found in the literature.

We assume that the RoW price remains constant

The three previous scenarios are crossed with the three scenarios on the allocation methodologies and with the three CO2 prices.

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Impact on the import ratio


CO2 price (€/t)15 30 45

Non

EU

Impo

rt r

atio

(%)

Zero PT Scenario

Half PT Scenario

Complete PT Scenario

15 30 45 15 30 45

Auction orFree Eco

Free Ind

10

15

20

27

BAU=8

25

CO2 price (€/t)15 30 45

Non

EU

Impo

rt r

atio

(%)

Zero PT Scenario

Half PT Scenario


15 30 45 15 30 45

Auction orFree Eco

Free Ind

Auction orFree Eco

Free Ind

10

15

20

27

BAU=8

25

CO2 price (€/t)15 30 45

25

30

BO

F pr

oduc

ts–

Non

EU

Impo

rt r

atio

(%)

BAU=20

Zero PT Scenario

Half PT Scenario


15 30 45 15 30 45

Auction orFree Eco

Free Ind

Allsteelproducts

–N

on EU Im

port ratio (%)

BAU=17

20

23

CO2 price (€/t)15 30 45

25

30

BO

F pr

oduc

ts–

Non

EU

Impo

rt r

atio

(%)

BAU=20

Zero PT Scenario

Half PT Scenario


15 30 45 15 30 45

Auction orFree Eco

Free Ind

Auction orFree Eco

Free Ind

Allsteelproducts

–N

on EU Im

port ratio (%)

BAU=17

20

23

• High impacts if one assumes a high CO2 price, a high pass through, a high Armington elasticity, Free Eco or AU and that the RoW price remains constant.

• If not, and especially if one assumes that Free Ind dominates, the impact remains modest.

CEMENT BOF STEEL

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Impact on the EBIT Margin


CO2 price (€/t)15 30 45

-20

20

40

80

EBIT

Mar

gin

(%)

-40

Zero PT Scenario

Half PT Scenario


15 30 45 15 30 45

60

0

BAU

Free Eco

Free Ind

Auction

CO2 price (€/t)15 30 45

-20

20

40

80

EBIT

Mar

gin

(%)

-40

Zero PT Scenario

Half PT Scenario


15 30 45 15 30 45

60

0

BAU

Free Eco

Free Ind

Auction

²

CO2 price (€/t)15 30 450

20

BO

F pr

oduc

ts–

EBIT

Mar

gin

(%)

Zero PT Scenario

Half PT Scenario


15 30 45 15 30 45

30

10

BAU

Free Eco

Free Ind

Auction

Allsteelproducts

–EB

IT Margin

(%)

12

18

6

24

²

CO2 price (€/t)15 30 450

20

BO

F pr

oduc

ts–

EBIT

Mar

gin

(%)

Zero PT Scenario

Half PT Scenario


15 30 45 15 30 45

30

10

BAU

Free Eco

Free Ind

Auction

Allsteelproducts

–EB

IT Margin

(%)

12

18

6

24

• The impact is huge and positive with a significant pass through if Free Eco dominates; huge and negative under massive auctioning if pass through is not high.

• Under Free Ind, the impacts remain modest. It is not true anymore for the cement sector if we assume low pass through.

CEMENT BOF STEEL

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Part 2


2 – Impact of the EU ETSD – Long run impacts

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Long Run: the relocation issue


Relocation is a concern given the importance of transnational firms. However, two elements soften this fear.

• Closure Rule and the New Entrant Reserve: the emission cost is limited to the value of the allowances that have to be bought (if any).

• Importance of investment costs vs uncertainty on the benefice of relocating because of the EU ETS:

Uncertainties on the allocation methodology, the CO2 price, hence on the cost impact of ETS. The ETS might collapse or some sectors opt out.

The asymmetry of the constraint may be reduced by the spread of the carbon constraint worldwide, the implementation of Border Tax Adjustments or Carbon Export taxes in non EU countries.

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Part 2


2 – Impact of the EU ETSE – Tipping points?

Is there a CO2 price above which imports or relocation become massive, the pass through ability drops to zero, EU firms stop

producing…

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Tipping points


The impact of the ETS on production costs depends on the plant considered (technology, energy mix, product…)

The trade barriers smooth the competitiveness impacts. For example:• Product and service differentiation. The aggregation of personal preferences tends to make the switch from local products to imports smooth. • Transportation costs depend on the geographical location of the exporters’plant and of the targeted EU consumer.Balance between capacity and consumption in the RoW. The size of this barrier depends on the exporting country considered, and varies a lot through time.

Market power of exporters tends to smooth the impacts (no interest in flooding the market).

This suggests that tipping points can only be identified if we make very simplifying assumptions.

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ConclusionsGeneral trends in the absence of EU ETS


Currently, the international pressure on the EU cement sector is generally low and moderate on the steel sector.

In both sectors, we have identified the trade and outsourcing barriers which explain this situation.

“The picture is changing”. This statement requires further support.

Given the importance of transnational firms in these sectors, one may fear a partial relocation of the EU production

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ConclusionImpact of the EU ETS on costs


If one assumes full auctioning of allowances or pure grandfathering, the impact of the EU ETS on productions costs is high for BOF steel and very high for cement.

However, this highly depends on the allocation methodology and the behaviour of manufacturers vis-à-vis the opportunity cost of free allowances.

From the economics literature there are grounds for expecting a high pass through ability in the cement sector, an intermediate in the steel sector.

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ConclusionCompetitiveness impacts


We use a simple short term model based on econometric estimates of the trade sensitivity.

Short term market share or profit margin losses may be very high under unlikely sets of assumptions.

In the long run, one may fear a significant relocation.

However: the current methodology of allocation reduces the emission cost for investment decisions.

to relocate because of the EU ETS is hazardous given the high uncertainty on the future cost impact of the ETS and the permanence of its asymmetry.

Preferably, these conclusions should be “disaggregated”.

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References


• Demailly, D., Quirion, P., 2006. CO2 abatement, competitiveness and leakage in the European cement industry under the EU ETS: grandfathering versus output-based allocation. Climate Policy 6, 93-113.

• Gerald, J.F., Scott, S., 2007. The market structure and sector vulnerability. Working paper for the COMETR Research Project. http://www2.dmu.dk/cometr/

• IISI [International Iron and Steel Institute], 2007. World Steel in Figures. http://www.worldsteel.org

• Kettner C., Köppl A., Schleicher S., Thenius G., 2007. Stringency and Distribution in the EU Emissions Trading Scheme – The 2005 Evidence. WIFO, Vienna, February

• Manne, A.S., Mathiesen, L., 1994. The Impact of Unilateral OECD Carbon Taxes on the Location of Aluminium Smelting. International Journal of Global Energy Issues, 6, 52-61.

• McKinsey & Ecofys, 2006. EU ETS review. Report on International Competitiveness. European Commission, DG environment.

• Reinaud, J., 2004. Industrial Competitiveness under the European Union Emission Trading Scheme, IEA Information Paper.

• Smale, R., Hartley, M., Hepburn, C., Ward, J., Grubb, M., 2006. The impact of CO2 emissions trading on firm profits and market prices. Climate Policy 6(1), 31–48.

• Szabo, L., Hidalgo, I., Ciscar, J.C, Soria, A., 2006. CO2 emission trading within the UE and Annex B countries: the cement industry case. Energy Policy , 34(1), pp. 72-87

• Walker N., 2006. Concrete Evidence? An Empirical Approach to Quantify the Impact of EU Emissions Trading on Cement Industry Competitiveness. School of Geography, Planning and Environmental Policy, University College Dublin. Working Paper.

• Watson, C., Newman, J., Upton, R.H.T., Hackmann, P., 2005. Can Transnational Agreements Help Reduce GHG Emissions? Round Table on Sustainable Development, OECD, Paris.

http://www2.dmu.dk/cometr/

http://www.worldsteel.org/

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