Linking
Independently administered ETS may elect to enter into agreements that allow regulated enterprises from each ETS to interact with each other. Two or more ETS that do so are said to be ‘linked.’ Typically, such arrangements subject enterprises to a common set of ETS requirements and may allow enterprises from each ETS to trade and use allowances and/or offsets. Before linkage can occur, administrators are advised to ensure that the proposed linkage is consistent with the interest of both ETSs and their respective stakeholders. Further, provisions that detail exactly how the jurisdictions will de-link should also be defined so as to ensure that one jurisdiction’s decision to exit does not cause undue harm to either of the previously linked ETS.
Through linking, different systems create a direct or indirect connection with each other. Systems link directly if emission allowances of one scheme can be surrendered in another. This can be done either bilaterally where both systems’ allowances can be used in either system, or unilaterally if this is only the case in one system. Systems can also link indirectly, for example through the common acceptance of an offset standard (such as the CDM). Linking offers the most potential benefit if different systems have different mitigation options and therefore different price levels. Full linking creates a single carbon price in all participating systems and makes the cheapest mitigation options available to all participants in the linked system. While allowance prices would rise in the previously cheaper non-linked system, linking would increase demand to make sure more efficient mitigation options are exploited. A larger market will also tend to be more liquid, which may increase resilience to manipulation and external shocks.
While a larger linked system would be able to take advantage of more mitigation options, all design elements, but also other factors such as political decisions and economic developments in every jurisdiction become variables in the larger market. Ensuring compatibility of design features across systems is therefore very important. Monitoring, reporting, and verification standards to ensure that ‘a ton is a ton’ are a key prerequisite for a common market. Other important issues include the use of offsets and so-called safety valves (e.g., price ceiling/floor) to regulate allowances prices. Differences regarding other design features, such as cap stringency, allocation/revenue provisions, or sector coverage can more readily be accommodated. For policymakers, linking means a loss of regulatory flexibility and control on a regional level, emphasizing the need for close coordination between linked systems.
Prominent examples of successful linkages are those of the EU ETS with the Swiss ETS and the California Cap-and-Trade Program with the Québec Cap-and-Trade System.
