How Quickly Can Ukraine Launch Its Own Emissions Trading System

23/ 02/ 2024

Glushchenko Andrii. Ph.D. in economics, analyst of GMK Center ETS establishment requires addressing numerous questions for which there are no straightforward answers One of the requirements of the Association Agreement with the EU is the implementation of a greenhouse gas emissions trading system (ETS) in Ukraine. The Ministry of Environmental Protection supports the fulfillment of this requirement and asserts its intention to submit a bill on ETS to the Verkhovna Rada this year. The Ministry also plans to launch the pilot phase of the ETS in 2025, and transit to full operation of the system in 2026. At first glance, everything looks perfect—Ukraine is moving in its European integration course, and the government strongly supports this movement. However, when you delve deeper, serious questions arise about the feasibility of the declared ambitions. It is considered that the discussion on the introduction of its own ETS in the EU began after the European Commission published the Green Paper on emissions trading in March 2000. The main directive regarding the functioning of the EU ETS (Directive 2003/87/EC) was adopted on October 13, 2003, and the system only started operating in 2005 (more precisely, the pilot phase). In other words, the European Union took a minimum of 5 years to launch the first phase of the EU ETS. Certainly, Ukraine can draw on certain ideas and experiences from European legislation. Especially considering the prospects of joining the EU, Ukraine needs to develop its own ETS, taking into account the principles laid down in the EU ETS. However, the challenge is that we cannot simply copy European legislation, especially that which is currently in effect in the 4th phase of the EU ETS. Ukraine and the EU are at different levels of economic development. Therefore, with the support of the European Commission and the World Bank, projects are currently underway in Ukraine to propose components of the ETS design that would consider Ukrainian-specific features. The EU ETS, launched in the EU in 2005, significantly differs from the current EU ETS. Moreover, the EU ETS will evolve in the future as the European Union modernizes its ETS, correcting mistakes and considering changes in climate goals. Building an ETS is a process of continuous improvement. The EU took 19 years to reach the current EU ETS model. Ukraine objectively cannot transplant the EU ETS model into national legislation—time is needed for the economy to adapt to European requirements. European companies have already gone through this process from 2005 to 2023, while Ukrainian companies will have to take their first steps. The launch of the ETS in Ukraine, which, from the first stage, would be as close as possible to the current EU ETS but with certain deviations to account for the peculiarities of the Ukrainian economy, requires answers to at least the following questions: What is the scale of coverage in terms of economic activities and types of greenhouse gases? How will the upper limit of emissions (cap) be established in the ETS? What rules will govern the allocation of carbon allowances in the ETS? Which platform will organize trading on the primary and secondary markets for greenhouse gas allowances? Who will be the regulator of the ETS in Ukraine? Who will perform administrative functions in the ETS, especially regarding the registry? Will the ETS include mechanisms for state interventions to influence prices of carbon allowances? Some questions are easy, for example, regarding coverage, while addressing other questions may indeed require more thoughtful considerations. For instance, establishing the upper emissions limit in the ETS is a complex challenge. Determining at which level to set this limit—pre-war or current—raises crucial questions. Additionally, accounting for enterprises in uncontrolled territories and their inclusion in the scope of the Ukrainian ETS after the return of territories necessitates careful rules, including adjustments to the upper emissions limit. A notable aspect of the EU ETS is the allocation of some allowances to companies free of charge based on benchmarks (emissions from the most efficient installations in the sector). This approach is considered progressive as it incentivizes companies to reduce carbon emissions. If benchmarks were to be introduced in the Ukrainian ETS, a key question would be about data that could be used for calculations. Does Ukraine have a sufficient number of installations in each sector for such calculations? It is also possible to use European benchmarks with adjustment coefficients, but such an approach also needs further explanations. To substantiate some ETS parameters the European Union needed two phases of EU ETS operation (2005-2012) to gather sufficient data and conduct research. The EU introduced the EU ETS without a fully established system for monitoring, reporting, and verification of emissions (MRV)—this system was developed in parallel with the launch of the EU ETS. The absence of up-to-date information on carbon emissions at the start of the EU ETS led to imbalances, necessitating subsequent adjustments to the ETS parameters. Ukraine had the opportunity to take a more rational approach to the introduction of its own ETS, as the plan was to initially implement the MRV system and then build the ETS based on it. On January 1, 2021, the Law of Ukraine On the Principles of Monitoring, Reporting, and Verification of Greenhouse Gas Emissions came into force. It was expected that in 2022, the first verified data on carbon emissions (data for 2021) would be obtained. However, this did not happen. As of now, the MRV system is not functioning as intended, and we lack complete data on carbon emissions—these data are crucial for justifying elements of the Ukrainian ETS. To gather enough data, in our opinion, a minimum of three years of full MRV system operation is needed in Ukraine. In addition to justifying the ETS parameters, there is also a need to harmonize them with each other and incorporate them into the relevant legal acts—this work also requires time. Ukraine also lacks a sufficient number of experts who could potentially support and administer the operation of the ETS. To train such specialists, it is necessary to have established rules for the ETS operation, and these are currently still being developed. The ETS is a separate regulated market. Its creation requires addressing numerous unconventional challenges. Hastening the launch of the ETS increases the risks of future imbalances in its operation, which may result in incorrect ETS functioning, harm to the economy, or problems with the recognizing of ETS by European partners. Therefore, constructing the Ukrainian ETS is a long-term, phased process that should rely on a roadmap for harmonizing the Ukrainian ETS with the EU ETS. Only under such conditions, we can construct an ETS that aligns with Ukraines integration into the EU and supports the achievement of our climate goals.

Glushchenko Andrii

Ph.D. in economics, analyst of GMK Center

ETS establishment requires addressing numerous questions for which there are no straightforward answers

One of the requirements of the Association Agreement with the EU is the implementation of a greenhouse gas emissions trading system (ETS) in Ukraine. The Ministry of Environmental Protection supports the fulfillment of this requirement and asserts its intention to submit a bill on ETS to the Verkhovna Rada this year. The Ministry also plans to launch the pilot phase of the ETS in 2025, and transit to full operation of the system in 2026. At first glance, everything looks perfect—Ukraine is moving in its European integration course, and the government strongly supports this movement. However, when you delve deeper, serious questions arise about the feasibility of the declared ambitions.

It is considered that the discussion on the introduction of its own ETS in the EU began after the European Commission published the Green Paper on emissions trading in March 2000. The main directive regarding the functioning of the EU ETS (Directive 2003/87/EC) was adopted on October 13, 2003, and the system only started operating in 2005 (more precisely, the pilot phase). In other words, the European Union took a minimum of 5 years to launch the first phase of the EU ETS.

Certainly, Ukraine can draw on certain ideas and experiences from European legislation. Especially considering the prospects of joining the EU, Ukraine needs to develop its own ETS, taking into account the principles laid down in the EU ETS. However, the challenge is that we cannot simply copy European legislation, especially that which is currently in effect in the 4th phase of the EU ETS. Ukraine and the EU are at different levels of economic development. Therefore, with the support of the European Commission and the World Bank, projects are currently underway in Ukraine to propose components of the ETS design that would consider Ukrainian-specific features.

The EU ETS, launched in the EU in 2005, significantly differs from the current EU ETS. Moreover, the EU ETS will evolve in the future as the European Union modernizes its ETS, correcting mistakes and considering changes in climate goals. Building an ETS is a process of continuous improvement. The EU took 19 years to reach the current EU ETS model. Ukraine objectively cannot transplant the EU ETS model into national legislation—time is needed for the economy to adapt to European requirements. European companies have already gone through this process from 2005 to 2023, while Ukrainian companies will have to take their first steps.

The launch of the ETS in Ukraine, which, from the first stage, would be as close as possible to the current EU ETS but with certain deviations to account for the peculiarities of the Ukrainian economy, requires answers to at least the following questions:

What is the scale of coverage in terms of economic activities and types of greenhouse gases?
How will the upper limit of emissions (cap) be established in the ETS?
What rules will govern the allocation of carbon allowances in the ETS?
Which platform will organize trading on the primary and secondary markets for greenhouse gas allowances?
Who will be the regulator of the ETS in Ukraine?
Who will perform administrative functions in the ETS, especially regarding the registry?
Will the ETS include mechanisms for state interventions to influence prices of carbon allowances?

Some questions are easy, for example, regarding coverage, while addressing other questions may indeed require more thoughtful considerations. For instance, establishing the upper emissions limit in the ETS is a complex challenge. Determining at which level to set this limit—pre-war or current—raises crucial questions. Additionally, accounting for enterprises in uncontrolled territories and their inclusion in the scope of the Ukrainian ETS after the return of territories necessitates careful rules, including adjustments to the upper emissions limit.

A notable aspect of the EU ETS is the allocation of some allowances to companies free of charge based on benchmarks (emissions from the most efficient installations in the sector). This approach is considered progressive as it incentivizes companies to reduce carbon emissions. If benchmarks were to be introduced in the Ukrainian ETS, a key question would be about data that could be used for calculations. Does Ukraine have a sufficient number of installations in each sector for such calculations? It is also possible to use European benchmarks with adjustment coefficients, but such an approach also needs further explanations.

To substantiate some ETS parameters the European Union needed two phases of EU ETS operation (2005-2012) to gather sufficient data and conduct research. The EU introduced the EU ETS without a fully established system for monitoring, reporting, and verification of emissions (MRV)—this system was developed in parallel with the launch of the EU ETS. The absence of up-to-date information on carbon emissions at the start of the EU ETS led to imbalances, necessitating subsequent adjustments to the ETS parameters.

Ukraine had the opportunity to take a more rational approach to the introduction of its own ETS, as the plan was to initially implement the MRV system and then build the ETS based on it. On January 1, 2021, the Law of Ukraine “On the Principles of Monitoring, Reporting, and Verification of Greenhouse Gas Emissions” came into force. It was expected that in 2022, the first verified data on carbon emissions (data for 2021) would be obtained. However, this did not happen. As of now, the MRV system is not functioning as intended, and we lack complete data on carbon emissions—these data are crucial for justifying elements of the Ukrainian ETS. To gather enough data, in our opinion, a minimum of three years of full MRV system operation is needed in Ukraine.

In addition to justifying the ETS parameters, there is also a need to harmonize them with each other and incorporate them into the relevant legal acts—this work also requires time. Ukraine also lacks a sufficient number of experts who could potentially support and administer the operation of the ETS. To train such specialists, it is necessary to have established rules for the ETS operation, and these are currently still being developed.

The ETS is a separate regulated market. Its creation requires addressing numerous unconventional challenges. Hastening the launch of the ETS increases the risks of future imbalances in its operation, which may result in incorrect ETS functioning, harm to the economy, or problems with the recognizing of ETS by European partners.

Therefore, constructing the Ukrainian ETS is a long-term, phased process that should rely on a roadmap for harmonizing the Ukrainian ETS with the EU ETS. Only under such conditions, we can construct an ETS that aligns with Ukraine’s integration into the EU and supports the achievement of our climate goals.