While the structure and the mechanisms that underpin the functioning of the EU ETS system are, by now, well known, discussions on the protection of the environment, and the development of secondary markets for emission allowances have stimulated a process of gradual inclusion of CO2 allowances in the perimeter of financial markets regulation. A first, significant step in this direction was taken by MiFID I: building on the definition of commodity derivatives introduced by the Investment Services Directive of 1993, MiFID I enlarged and amplified the catalogue of derivatives that would be considered as falling into its scope. The catalogue included then derivatives on emission allowances. The landscape set by MiFID I was, however, just a first step towards the inclusion of emissions trading in the scope of financial markets legislation. A second step has been taken by MiFID II, as the latter directly classifies rights on emissions allowances falling in the EU regime, as financial instruments. The reasons that led to the qualification of emissions allowances as financial instruments in MiFID II are basically a consequence of the tremendous evolution that secondary markets of allowances have seen in the last few years. The growing amount of transactions and the need to preserve and ensure the transparency and integrity of secondary markets convinced the Commission of the opportunity to include emissions allowances in the scope of MiFID II and, therefore, in the scope of the Market Abuse Directive (now, Market Abuse Regulation). Looking at the positive effects that, on environmental protection, may derive from the inclusion of emission allowances in the scope of capital markets legislation, these are basically linked to the fact that - as a consequence of the approach stemming from MiFID II - secondary markets should effectively become more transparent, efficient and secure. There are, however, some potential drawbacks to be considered. Trading in emission allowances becomes more expensive after MiFID II, and transaction costs might impact negatively on the liquidity of the market. The application of CRD IV (now, CRD V) prudential requirements might also require the absorption of important level of capitals, that would be distracted from direct investments in the industry: the effect that this might have on the system is, at the moment, unclear. The landscape introduced by MiFID II is also quite complex: there are at least two, if not three different sets of comprehensive legislation that may potentially be relevant for trading emission allowances, either on the spot, or on the derivatives market: the “old” EU-ETS; MiFID II-MAR; more tangentially, REMIT. The paper discusses the implications of each of them. Opting in and out of each of these systems, through a complicated system of exemptions and exclusions, does not benefit the overall coherence of the regulatory approach.
Can Finance Help Save the Planet? The Case of Emission Allowances and MiFID II
Annunziata, Filippo
2020
Abstract
While the structure and the mechanisms that underpin the functioning of the EU ETS system are, by now, well known, discussions on the protection of the environment, and the development of secondary markets for emission allowances have stimulated a process of gradual inclusion of CO2 allowances in the perimeter of financial markets regulation. A first, significant step in this direction was taken by MiFID I: building on the definition of commodity derivatives introduced by the Investment Services Directive of 1993, MiFID I enlarged and amplified the catalogue of derivatives that would be considered as falling into its scope. The catalogue included then derivatives on emission allowances. The landscape set by MiFID I was, however, just a first step towards the inclusion of emissions trading in the scope of financial markets legislation. A second step has been taken by MiFID II, as the latter directly classifies rights on emissions allowances falling in the EU regime, as financial instruments. The reasons that led to the qualification of emissions allowances as financial instruments in MiFID II are basically a consequence of the tremendous evolution that secondary markets of allowances have seen in the last few years. The growing amount of transactions and the need to preserve and ensure the transparency and integrity of secondary markets convinced the Commission of the opportunity to include emissions allowances in the scope of MiFID II and, therefore, in the scope of the Market Abuse Directive (now, Market Abuse Regulation). Looking at the positive effects that, on environmental protection, may derive from the inclusion of emission allowances in the scope of capital markets legislation, these are basically linked to the fact that - as a consequence of the approach stemming from MiFID II - secondary markets should effectively become more transparent, efficient and secure. There are, however, some potential drawbacks to be considered. Trading in emission allowances becomes more expensive after MiFID II, and transaction costs might impact negatively on the liquidity of the market. The application of CRD IV (now, CRD V) prudential requirements might also require the absorption of important level of capitals, that would be distracted from direct investments in the industry: the effect that this might have on the system is, at the moment, unclear. The landscape introduced by MiFID II is also quite complex: there are at least two, if not three different sets of comprehensive legislation that may potentially be relevant for trading emission allowances, either on the spot, or on the derivatives market: the “old” EU-ETS; MiFID II-MAR; more tangentially, REMIT. The paper discusses the implications of each of them. Opting in and out of each of these systems, through a complicated system of exemptions and exclusions, does not benefit the overall coherence of the regulatory approach.
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