Carbon markets to be left "more or less unscathed" by financial turmoil

The price of carbon credits in Europe's emissions trading scheme slipped today as the financial crisis gripped the world's money markets and renewed fears over a deep recession drove down demand.

However, experts insisted that the carbon market would remain relatively well insulated against the problems afflicting the financial sector in the wake of the collapse of Lehman Brothers and sale of Merrill Lynch, predicting that the price of a tonne of carbon in the EU's cap-and-trade scheme was unlikely to fall much further.

The price of EUA credits has fallen from more than €25 (£14) towards the end of August to around €23 today as the price of oil has dropped to a recent low of $91.54 a barrel.

Experts agreed that fears about the economic outlook had led to a fall in the price of oil that has in turn driven down the price of gas. Lower gas prices encourages power suppliers to switch from coal to gas and as gas is the cleaner fuel their emissions will fall, meaning they require fewer carbon credits under the EU's scheme.

Lower demand for credits creates downward pressure on the price, which is only amplified by the expectation that an economic recession will also lead to less demand for energy, further driving down carbon emissions.

"If the expectation is that the price of oil will go down further… then demand for emission permits will be reduced and the price will fall," explained David Metcalfe of green business research firm Verdantix.

Henrik Hasselknippe of analyst firm Point Carbon agreed that the falling price of oil would likely drive down the price of carbon further in the short term, adding that the likelihood that some investment banks could shut down their carbon trading arms to focus on their core business could also impact the volume of carbon traded.

"Lehman Brothers is reportedly already looking to sell its carbon portfolio and we could see some of the other financial institutions exiting carbon as it is not part of their core business," he observed.

However, he added that the long-term outlook for the carbon market remained positive and as such the price was unlikely to fall much lower than €20 a tonne.

"I could see the price dropping to €20 but at that level someone would want to pick it up," said Hasselknippe. "The fact is that carbon is a good long-term bet as any investments in the current phase of the ETS can be rolled over into phase III [which begins in 2013] when all the indicators are emission caps will get tighter and the price will rise significantly… the market could be left more or less unscathed by the financial problems."

Metcalfe agreed that the long-term outlook for the market remained good.

"Fundamentally, you have to ask if you are going to have customers [for carbon credits]," he observed. "The answer is yes. Why? Because they are legally obliged to buy those credits."

Analysts have repeatedly predicted that carbon is likely to trade at anywhere between €35 and €50 a tonne from 2013 and there is confidence that the financial crisis will fail to impact the health of the market in the longer term.

"The only caveat is that a recession may encourage politicians to set caps higher," said Hasselknippe, adding that such a move would lead to some lowering of price predictions.