Policy paper 268

Putting the cart before the horse? PERSPECTIVES ON A POTENTIAL ETS ON RESIDENTIAL BUILDINGS

The author wishes to thank Thomas Pellerin-Carlin, Phuc-Vinh Ngyuen, Marie Delair, Sébastien Maillard for their valuable comments.

| 13/07/2021

Executive summary

To tackle climate change and make the EU Green Deal a reality, European buildings need to slash emissions by 60% by 2030, and become climate neutral in the late 2040s. This can be done with already existing technologies and techniques. Key obstacles to buildings’ mass renovation are a lack of clear decarbonization strategy, weak regulatory framework, high upfront costs and access to finance.

To trigger a Renovation Wave, the European Commission will propose reforms strengthening existing EU buildings regulations in the upcoming “Fitfor55” energy and climate package. It also considers the introduction of a new instrument: an Emissions Trading System (ETS) on buildings to put an EU-wide carbon price on heating fuels. However, applying the polluter
-payer principle to buildings may raise more issues than it hopes to solve.

Most EU buildings are homes, and households would be hit hardest. Due to important non-market barriers, the carbon price would need to be very high (150 to 250€/tCO2) to bring on building renovation. This would have a stronger impact on lowest-income households. A price control mechanism would avoid high prices with too much equity impact. In this case, carbon price will not drive the decarbonization of the housing stock, but simply act as a complementary tool. Fostering social acceptability will require to use 100% of the revenues for social compensation and green investments in renovation. However, policy solutions will never mitigate the full impact of the carbon price. Splitting the burden is a political choice which should be subject to a transparent and inclusive debate.

To finance a socially-fair energy transition in buildings, there are alternative financing sources, including revenues from strengthening the current ETS. To rebalance heating fuel taxation between those already covered by the ETS (electricity and district heating) and the others (e.g. gas), then a reform of the Energy Taxation Directive could play a similar role while ensuring better price predictability. Finally, an EU-wide carbon price is not necessary for the buildings sector given the lack of cross-border issues: no household would move to another EU Member State to benefit from cheaper heating prices. In any case, social justice and consistency should guide carbon taxation. Removing fossil fuel subsidies also contributes to establish a level playing field with low carbon options.

Establishing a new ETS on buildings is a high risk and low reward policy. It would require considerable administrative and political work, diverting efforts from more impactful decarbonization tools. Given distributional impacts of the carbon price and market failures, instruments such as subsidies and performance standards may be more effective in steering rapid and socially-fair transition of buildings. Lastly, the EU would take a major political risk in introducing an EU measure whose success will eventually rests on national policies’ fairness and Member States’ effective implementation of ambitious renovation policies that are currently lacking. There is a risk to have the poorest paying the highest price of the energy transition. No need to rush for an EU-wide carbon price on buildings. There is a lack consultation at the EU level (not to say national and local) on a potentially highly socially regressive policy that requires extensive stakeholders’ engagement.

This policy paper recommends that:

  1. The EU Commission, EU Parliament and Council of the EU should put regulatory and supporting policies first by establishing :
    – An ambitious regulatory framework aligned with climate neutrality, with gradually increasing standards for buildings envelopes and heating systems
    – An EU Renovation Fund fueled by additional revenues from the current ETS, investing in the deep renovation of buildings to the benefit of energy poor families. This could be the core of the ‘Climate Action Social Facility’ considered by the European Commission.
  2. The EU Commission and/or the EU Parliament should open an EU-wide multi-level public debate on carbon price on heating and burden sharing of transition costs, which could on the agenda of the Conference for the Future of the European Union. Besides, an EU Citizen Assembly on Climate could feed-in the debate on whether an ETS on heating fuels should be implemented or not, and if yes, under which design and alongside which policies.
  3. If the EU Parliament and the Council of the EU choose to adopt the ETS on buildings the EU Commission will propose, they should ensure that a price control mechanism keeps allowances prices at very low levels at least until the worst-performing buildings occupied by low-income households are renovated and key investment barriers removed. 100% of those newly generated revenues should be used for climate and social action, first to compensate the most affected, and second to fund deep renovation of buildings inhabited by energy poor Europeans. Special attention should be given to consistency of the energy reforms to foster social acceptability.

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