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Cicerone 1-2004

A green certificate market may result in less green electricity

A worst-case scenario is that a green certificate market could have the opposite effect of what was intended and actually result in a reduced production of green electricity, points out economist Eirik Schrøder Amundsen.

In 2006, the Norwegian government plans to introduce a market for trading green certificates that are issued to producers of new renewable electricity. These certificates are then sold to consumers, who are then required to make sure that a certain percent of the electricity they buy is green electricity. This market will function alongside an emissions trading market, which will be established in 2005 and provide a market for the trading of greenhouse-gas emissions permits issued to power producers and other industries that emit greenhouse gases.

Eirik Schrøder Amundsen, professor at the University of Bergen and scientific advisor at the Institute for Research in Economics and Business Administration (SNF), has worked with various aspects of green certificates in a number of contexts. He currently directs a SAMSTEMT project that uses economic analysis to look at how a certificate market and an emissions trading market will perform under various conditions. The project addresses questions such as what can happen when a certificate market expands beyond national borders, how an emissions-trading market and a certificate market function together, how a power monopoly can ruin the certificate market, and the consequences of changes in the so-called percent requirement. This percent requirement is the government’s only way to control the certificate market, and indicates how much of the power consumed actually comes from environmentally friendly sources.

Dangers

Amundsen emphasizes that he essentially favors any measure that can increase the production of environmentally friendly power, but that the certificate system contains a number of potential pitfalls that the government should be aware of. He believes that the emissions trading market, possibly in combination with direct subsidies, could be a better way to increase the share of green power.

“A quota system will indirectly lead to increased production of green electricity, at the same time as we avoid many of the downsides associated with a green certificate market,” he says. “A tax or quota system for CO2 emissions will result in the production of less emissions-intensive electricity and more green electricity. This system is very predictable, as opposed to a green certificate market, which can have a number of unforeseen results.”

Higher electricity prices and less green electricity

Even if the percent requirement for green electricity increases, the production of green electricity may well be reduced overall – which goes directly against the intent to stimulate increased capacity for green electricity. This will then push the cost of an inefficient policy over to the consumers and electricity producers who do not produce new renewable energy.

“If the price of electricity increases because of a certificate market, the total consumption of electricity will go down,” points out Amundsen. “Since the requirement to produce environmentally sound electricity is a percentage share of the total production and not an absolute number, it is possible that production of this green power will experience a net decrease. However, it is impossible to say at this point whether the certificate system will lead to higher or lower electricity prices for the consumers. If prices drop, then the production of green electricity will increase.”

Two instruments to achieve the same goal

While a certificate market supports producers of green electricity, an emissions trading market increases the costs for producers of emissions-intensive power and other industries that emit greenhouse gases. Amundsen believes that these two instruments have the same main goal, namely to promote a more environmentally sound use of energy-bearers. However, the combination of the two systems could have unforeseen consequences. If, for example, permit prices increase because of stricter emissions requirements, the incentives to invest in green electricity will in fact be weakened. The reason for this is that the certificate price in such a situation will fall far more dramatically than the price of energy will increase, such that the sum of the two prices drops. Once the market adjusts, the benefits of producing green energy are reduced.

Control instrument

As mentioned above, the success of a green certificate market depends on the government being able to require that a certain percent of consumers’ electricity consumption come from new renewable sources, such as wind power and solar power. The power producers that supply green energy are issued a green certificate for each produced unit of electricity, which they then sell on a certificate market. Thus these producers receive income equivalent to the market price for electricity plus the price of the certificate. Grid companies buy the necessary green certificates and pass on the cost to the consumer though increased electricity prices. If the net effect of this is reduced consumption and higher electricity prices, it is then the consumer that to a certain degree directly subsidizes the production of green energy instead of the government (through general taxes). But also producers of energy that is not certified as green are burdened in the form of reduced profit.

In theory this should result in a predictable system for those who wish to invest in green energy production. The way the government can exercise control is to set the percentage for the required share of green energy of total consumption.

“Increasing the percent requirement may not necessarily lead to an increase in the capacity to produce green electricity, but it is certain that the capacity to produce emissions-intensive electricity will be reduced,” says Amundsen. “This can in itself be good for the environment, but it does not achieve the original goal of the system.”

Unstable wind power

Another issue studied by Amundsen is the uncertainty associated with the capacity to produce green electricity. For example, the capacity to produce green electricity from wind power will vary significantly from year to year. Wind power can vary by as much as 25%, which will create uncertainties in the market.

“This problem can to a certain degree be reduced if the manufacturers are allowed to bank certificates from one period to the next,” says Amundsen. “This way it is possible to save certificates from years with high production and use them in years with low production of wind power.”

Market power

Amundsen has also studied the consequences of an energy market where an actor has significant market power.

“In a monopoly situation, a certificate system is vulnerable to breakdown if the certificate price either reaches the maximum or the minimum set by the government,” he points out. “The certificate market will collapse and be reduced to a system with fixed certificate prices. If the price, for example, drops below the guaranteed minimum, the government must subsidize the difference. But in a joint Nordic certificate market, there will nevertheless be little opportunity to exercise such market power.”

Nordic market

Norway will associate its certificate market with the Swedish market that started in 2003. When certificate trading takes place across borders, the government will have less control over how much green electricity is produced domestically.

“The percent requirement will thus become a very poor control instrument,” says Amundsen.

He believes that the Norwegian percent requirement will be about the same as that in Sweden. The Swedes currently have a requirement of seven percent green electricity and this will increase to over 10 percent in 2010. The Danish system lies around 20 percent, although the current prevalence of coal-fired power plants gives Denmark a greater potential for increasing its capacity for producing renewable energy. In Norway and Sweden, most of the power already comes from hydropower.

Last updated: 07.05.2004

CAUTIONS: Economist Eirik Schrøder Amundsen welcomes policy instruments that increase the production of new renewable energy, but cautions against the many dangers presented by a green certificate market.CAUTIONS: Economist Eirik Schrøder Amundsen welcomes policy instruments that increase the production of new renewable energy, but cautions against the many dangers presented by a green certificate market.
Green certificate market
  • Green power producers sell electricity and receive a certificate per sold unit. The certificate can be sold in a certificate market.

  • Distribution companies purchase sertificates on behalf of the consumer.

  • The consumers must hold a share equivalent to a certain percent (percent requirement) of the total consumption.

  • The percent requirement is seen as a control instrument for the government.

  • The system implies that direct subsidies from the government are replaced with subsidies that come through the market.

  • These “subsidies” will come from power producers that are not certified as “green” and from the consumers.

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