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BW Businessworld

Sky Wars 2012

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Consider this. An Indian tourist, flying in a European Union (EU) built aircraft of an EU airline to spend euros in the EU will end up paying carbon tax to the EU even for the portion of the flight that falls in non-EU airspace. That sounds unfair," says Amber Dubey, KPMG's director-aviation. On 1 January 2012, the European Union's Emissions Trading Scheme (EU-ETS) for the aviation industry came into effect — not just for EU carriers but for all airlines flying into the bloc.

Predictably, it drew howls of protest and some immediate retaliation. On 22 February 2012, a joint declaration was signed in Moscow between India, Russia, China, the US and 19 others. It said EU-ETS was a no-no; threatened to ask EU carriers to submit flight details and impose counter-charges. The normally reticent Jayanthi Natarajan, the environment and forests minister, termed it a deal-breaker for the Rio+20 Climate Summit. She called it a discriminatory trade measure disguised as climate change protection.

The US airline trade body, Airlines for America (A4A), along with a group of American airlines, went to the European Court of Justice against the order. They lost — as expected — and now comply ‘under protest'. Meanwhile in the US, a legislation to exempt US carriers from EU-ETS awaits the Senate's approval.

Trigger For Turbulence
The biggest blowback came from Asia though. China suspended Airbus orders worth $14 billion in March. India delayed clearing the summer schedules of some European carriers, leading to flight disruptions. "It woke up the Europeans who flew down to New Delhi," says a senior government official with some satisfaction. "They weren't even responding to our concerns before that." He is combative and doesn't rule out taking counter-measures till India's concerns are taken into account. "Our economy is not bleeding like theirs," he points out.

In the previous EU-ETS (excluding aviation), compulsory participation is limited to the 27 members of the EU. For it to be extended to the world in general needs the sanction of a global body. In this case, it's the International Civil Aviation Organisation (ICAO). And since that body hasn't mandated anything, the EU cannot force other countries to comply with its orders. But the EU has its justifications. "Airline emissions affect the climate regardless of nationality," says Isaac Valero-Ladron, spokesperson for Connie Hedegaard, EU's Commissioner for Climate Action.

"No one is keener than europe to see an internationally coordinated approach on aviation."
Connie Hedegaard, European Commissioner for climate action (Bloomberg)

The aviation sector accounts for nearly 3 per cent of the EU's total greenhouse gas emissions. That is only direct emissions, not indirect effects from NOx (nitrous oxide), methane emissions and so on. The Intergovernmental Panel on Climate Change estimates aviation's current impact is two to four times more than the effect in the past; ICAO estimates emissions will go up by 88 per cent between 2005 and 2020; and by 700 per cent by 2050. Air travel is seen going up by 5 per cent annually through 2015. By ICAO methodology, a passenger flying a round trip between Brussels and New Delhi emits 884.59 kg of CO2 in economy; 1,769.18 kg of CO2 in premium.

Supporters believe the EU-ETS will force airlines to embrace better, more efficient technology. Chaitanya Kalia, partner at Ernst & Young, believes installation of winglets, weight reduction and fleet renewal can help. But there are others who feel the scheme will not bring any substantive improvement. For instance, you still have to deal with poor air-traffic management, time spent at airports taxiing and idling. There's also criticism that free allowances would give windfall gains when cashed in at current prices. Critics argue the scheme is biased — it gives more allowances to airlines that fly more, contrary to the ‘polluter pays' principle. And there's a curious fact — private planes carrying only diplomats are exempt!

Eye For An Eye
Malaysia-based Air Asia X's CEO Azran Osman-Rani believes ETS may defeat the very purpose it's intended for. "What happens now, for example, in Asia is people are encouraged not to fly direct. They are encouraged to fly a one-stop, for example, by Middle East, where you only pay a six-hour tax to Dubai or Qatar and the next leg is not taxed. And carbon emissions peak during take-offs and landings," he says. Rani is for subsidy cuts to inefficient state-run airlines. "It (subsidies) is singularly the worst thing that can happen in the industry. No amount of specific environment policies will succeed till inefficient airlines are allowed to fail."

Incidentally, Air Asia X was the first to stop flights to Europe due to ETS. But other carriers, especially those flying within EU, do not have that option. "Assuming that airlines use only two-thirds of their total Certified Emission Reduction (CER) quota and at today's price levels (EU aviation allowance at €7 and CER at €5), the cost to the sector as a whole would be €285m," says Andreas Arvanitakis, associate director, Thomson Reuters Point Carbon. It can cost China's five largest airlines — Air China, Cathay Pacific, China Eastern Airlines, China Southern Airlines and Hainan Airlines — up to €8.5 million in 2012. In terms of certificates, airlines would need to purchase 50 million over and above the 183 million free allowances from EU. The International Air Transport Association (IATA) puts initial costs at around €900 million in 2012, rising to €2.8 billion by 2020.

International airlines like Lufthansa,which has 25,400 weekly flights both within and outside Europe, and Emirates estimate compliance costs to be €130 million and €40 million in 2012 alone. British Airways and Virgin Atlantic will pay significant amounts — the two did not comment on the amount to BW. Emirates though complying, has expressed support to the "the growing, united opposition of some 30 of the world's most important economies". Japan's All Nippon Airways is working with the government to oppose it.

To recover costs, many carriers such as Lufthansa are now mulling fare hikes. But that is not a situation they would want. On 2 January, a day after the EU-ETS came into effect, Lufthansa board member Carsten Spohr said: "It (ETS) will distort competition and impact the sustainability of the industry if it proves impossible to implement the competitive neutrality promised by policymakers." It is no surprise that western carriers have urged European policymakers to review their stand. British Airways, Virgin Atlantic, Lufthansa and others have shot off letters to EU heads detailing their woes. And it's not just compliance costs that worries them. India and others have threatened to impose similar penalties on EU carriers.


Emissions trading or cap-and-trade is a market-based approach to tackling pollution. Under the mechanism, a central body determines the limit on emission of pollutants. The limit or cap, represented by emission permits, are sold or allocated to companies who must keep their emissions of the specific pollutant within the number of permits they hold. Those who need more permits must purchase it from others having surplus permits.

The EU-ETS or European Union Emissions Trading Scheme was launched in 2005. The ETS operates in the 27 EU states, Iceland, Liechtenstein and Norway. Aviation was included in January 2012. Airlines will not be billed until April 2013. EUAA stands for European Union Aviation Allowance. One EUAA represents the right to emit 1 tonne of CO2. Over 80 per cent of the allowance will be given for free to operators. Fifteen per cent will be auctioned and the remaining has been earmarked for future distribution to new entrants and fast-growing airlines.

CERs or Certified Emission Reduction are a unit issued by the Clean Development Mechanism (CDM) for projects. One CER represents 1 metric tonne of CO2 equivalent.

British Airways (BA) told BW: "Trying to impose a scheme on flights outside of Europe risks retaliatory action against EU airlines and trade at a time when the European economy is under severe pressure. The amount of resistance to the EU's plans shows that the European Commission needs a Plan B in case there is retaliatory action." Can retaliatory tactics work? You decide from BA's comment. "We believe that any concessions which might be made for non-EU airlines should also be applied to EU airlines operating on the same routes."

Costs for Indian airlines are comparatively lower. According to Sandbag's (a not-for-profit climate change campaign group) study, compliance cost to Air India (AI), which operates 28 flights a week to Europe, and Jet Airways would be E1.8 million pounds and E0.54 million, respectively. "In fact, India is not greatly impacted by this scheme as we expect the two Indian airlines in the scheme — Jet Airways and AI — to be allocated more allowances for free than they need," says Arvanitakis. The major bone of contention is the perceived threat to sovereignty and the precarious financial condition of our airlines.

On the Indian front, domestic airlines have been ordered not to comply or even communicate with EU directly. While Jet did not comment, AI confirmed the development. It highlighted other concerns. In the event EU-ETS is to be honoured, an AI passenger would have to cough up an extra $35 for flying from either New Delhi or Mumbai to Europe. If AI did not comply, EU could take the extreme measure of banning the airline from EU. In such a situation, AI would have to explore polar or north Pacific routes to fly to the US.

Who Will Blink First?
The EU's move has led to a stand-off where no one wins. Airbus, for instance, has been a sufferer. It has 594 pending orders with Indian carriers. Airbus could be in trouble if things worsen. "The EU-ETS in itself is something that Airbus supports in that we need a market-based mechanism. What we have a problem with is the current state of ETS and the effect it's having on our relationships with our important customers," says Katherine Bennett, head of political affairs at Airbus. "Any plan to target CO2 should be done on a global basis. We have been making representations to the EU that the only way this can be solved is through a global consensus and through ICAO."

South Africa's tourism minister, Marthinus van Schalkwyk, has urged the EU to push back the system for two years. "Aggressive unilateralism and extra-territorial measures are not the way to go in an increasingly globalised world," he warns. "Unfortunately, Europe has chosen a go-it-alone regional approach. We feel aviation is a team effort," says Tony Tyler, DG & CEO, IATA. But he's hopeful of a compromise.

Hedegaard's office has its defence. And junks fears of higher passenger fares.  "The aviation industry at times seems to imply we are talking about enormous sums of money per ticket. Our calculations indicate that a flight from Brussels to New Delhi would cost around €1.5 per passenger — less than a cup of coffee at the airport," says Ladron.

Aviation's emissions are a concern. But it seems political egos will once again overshadow concerns of climate change and economics. If environment protection is truly what concerns it, the EU should perhaps reconsider its role and aim for a multi-lateral solution. And miffed governments should engage in constructive discussion rather than knee-jerk retaliations.


(This story was published in Businessworld Issue Dated 07-05-2012)