Research and analysis

Traded carbon values used for modelling purposes, 2024

Published 17 December 2024

Background

The Department for Energy Security and Net Zero’s (DESNZ) traded carbon values for modelling purposes are used to estimate the financial cost of purchasing allowances in the United Kingdom Emissions Trading Scheme (UK ETS) under different scenarios. The UK ETS Authority governs the UK ETS – the work herein has no connection to the UK ETS Authority or any of the work or decisions of that Authority. Traded carbon values quoted in this paper correspond to the period up to 2050. They should not be considered as forecasts of prices of UK ETS allowances, rather independent scenario-based projections and the actual price of allowances may fall outside of the range included in this publication.

Scenarios

The projections are all based on assumptions and the range of emissions planned to reach Net Zero in 2050. There is a range, rather than one series, as the pathway will be affected by elements such as GDP growth and fossil fuel prices which are impacted by issues outside of Government control (eg. world energy prices, etc).

The set of four trajectories is an update of the set published last year ^{[footnote 1]}:

• The central trajectory is based on Net Zero Strategy ^{[footnote 2]} projected emissions and assumes a level of decarbonisation achieved through other policies to achieve net zero in 2050.
• The high trajectory reflects the state of the world where fossil fuel prices are relatively lower, which make fossil fuels more competitive in comparisons with renewables, whilst the economic growth is also high. This results in higher emissions relative to the central scenario, and thus higher traded carbon values are needed to incentivise more abatement to meet the cap.
• The low trajectory reflects the state of the word where fossil fuel prices are relatively higher, which make fossil fuels less competitive in comparisons with renewables, whilst the economic growth is also low. This results in lower emissions relative to the central scenario, and thus lower traded carbon values are needed to incentivise more abatement to meet the cap.
• The market trajectory assumes that in the first few years, whilst market is still new, there are some unobservable market factors that affect the carbon value (transaction costs, liquidity, market inertia etc). It assumes the effects of these will dissipate over four years, the extent of foresight in the models, returning to the underlying fundamentals reflected above.

Methodology

The Department for Energy Security and Net Zero uses a fundamentals-based approach to estimate UK traded carbon values. Its Carbon Market Model (CMM) finds the equilibrium between demand for and supply of abatement over a chosen period. The CMM utilises information about future abatement costs, emissions and caps to derive traded carbon values ^{[footnote 3]}.

The 2024 traded carbon values are based on methodology using two data sets:

• Business As Usual (BAU) emissions projections and corresponding Marginal Abatement Cost Curves (MACCs). These have been commissioned from consultants Enerdata and produced by them using their POLES (Prospective Outlook on Long-term Energy Systems) model, a top-down global sectoral model of the world energy system ^{[footnote 4]}. These BAU emissions projections and MACCs use the Department’s fossil fuel price assumptions and underlying economic growth projections.
• Market prices of UKA futures contracts. This includes data on daily settlement prices of UKA futures contracts with traded on the Intercontinental Exchange (ICE) for the first five months of 2024. Observed market prices are the best source of information when projecting the price of traded carbon. However, the futures market provided prices for liquid contracts only for December 2024, so these data are used for the start of the trajectory only.

Overview of assumptions:

• The current scope of UK ETS is assumed up to 2050. This modelling assumption is based on the current legislated policy and should not prejudge future developments in UK ETS scope expansion.
• After 2030, the UK ETS cap will follow the net zero strategy emissions pathway for the traded sector.
• Foresight is set as four years (Until 2047, from which it reduced one year each year to one year in 2050), this is the timeframe in which participants assess the degree of scarcity in the market and, consequently, their future abatement and carbon trading strategies.
• The cost of carry is set at 3.25%, this is the rate in the model at which firms discount future investments in abatement and is sometimes called the discount rate.
• Hedging is assumed to be 1.35 times the annual allowances needed in the power sector.
• A greater starting surplus was recorded for 2024 and incorporated into the model compared to that projected in the model in 2023.

2024 modelling traded carbon values

The following estimates for UK traded carbon values have been used in the latest update to the department’s Energy and Emissions projections ^{[footnote 5]} and is recommended to be used in other models across Government. These traded carbon values can be used as the average annual carbon prices in those models; carbon prices can have a large variability across the year. These will be revised periodically. The 2024 updated traded carbon values are shown in Table 1 and Figure 1.

Table 1: Traded carbon values for modelling purposes, £/tCO2e (real 2024): Central scenarios

Year	Market Traded Carbon Values	Low Sensitivity - High Fossil Fuel Prices and Low Economic Growth	Net Zero Strategy Aligned	High Sensitivity – Low Fossil Fuel Prices and High Economic Growth
	(2024 GBP)	(2024 GBP)	(2024 GBP)	(2024 GBP)
2024	37	28	40	46
2025	44	49	63	74
2026	62	62	87	103
2027	75	66	87	104
2028	88	62	88	110
2029	80	53	80	105
2030	78	50	78	107
2031	85	54	85	114
2032	91	60	91	118
2033	97	63	97	123
2034	100	65	100	125
2035	109	72	109	134
2036	115	77	115	140
2037	122	84	122	146
2038	130	94	130	153
2039	132	96	132	153
2040	128	94	128	151
2041	125	90	125	149
2042	122	87	122	148
2043	118	85	118	145
2044	119	85	119	147
2045	120	85	120	148
2046	119	82	119	148
2047	119	83	119	150
2048	121	84	121	151
2049	122	84	122	152
2050	124	85	124	154

Figure 1: Traded carbon values for modelling purposes, £/tCO2e (real 2024): Central set of scenarios

Changes compared to 2023 publication

There are three main changes to the 2024 traded carbon values when comparing to these series published last year.

• The first has been a change in the exchange rate and inflation rate methodology. The underlying marginal abatement costs are provided in 2015 dollars. These need converting into sterling and into the real terms of starting year for the model. There is a difference in outcome depending on the order in which these are applied, in part because of how the exchange rate changed between 2015 and today. The model now converts to sterling and then applies a deflator, this has made a difference to the values, reducing them.
• The second difference is that early year traded carbon values are also much lower due to a greater starting surplus recorded for 2024 and incorporated into the model compared to that projected in the model in 2023.
• Lower futures prices used in the Market Traded Carbon Values series compared to those used in 2023 because of the change in UKA market price over the last 12 months.

Figure 2: Traded carbon values for modelling purposes compared to 2023, £/tCO2e (real 2024)

Caveats and limitations

Please note these traded carbon values are based on a specific set of assumptions with respect to the policy mix, cost of fuels, level of emissions etc. Consequently, these should not be considered as “forecasts” of future prices and the Department for Energy Security and Net Zero accepts no responsibility for any outcomes arising from the use of these figures.

The modelled trajectories reflect “what if” scenarios based on specific sets of assumptions that are chosen to produce a plausible and meaningful range for sensitivity analysis. As such, they are not meant to depict a likely outcome. Instead, these values represent our best understanding of fundamentals-based value of carbon allowances in UK ETS.

Fundamentals-based trajectories are also subject to numerous modelling assumptions in the CMM (including perfect foresight and discount rate) and in the POLES model (including cost of abatement technologies, deployment rates etc.) that attempt to simulate market participants’ behaviour in future states of the world and as a result are subject to considerable uncertainty.

1. Traded carbon values used for modelling purposes, 2023 ↩

2. Net zero strategy ↩

3. Further information about the methodology can be found in the report and peer reviews published previously: Updated short-term traded carbon values used for UK policy appraisal (2014) ↩

4. Further information on the POLES model can be found here: POLES: Prospective Outlook on Long-term Energy Systems ↩

5. These are available at: Energy and emissions projections ↩