Nov-2022

What about a CBAM for the refining industry? (ERTC)

In 2020, when oil demand and refining margins collapsed during the pandemic, we saw a tidal wave of industry rationalisation across the world; many refineries closed, announced that they plan to close, or were converted into ‘something else’.

Ignazio Arces, Refining Evolution and Transformation
Head of Asset Management, ENI

Article Summary

Even in the period of recovery, European oil demand did not recover to pre-pandemic levels, limiting refining margins, along with the growing high cost of natural gas and carbon emissions. Regionally, Fit for 55 will lower European fuel demand by 300-400 kbd by 2035, furthering weakening refinery utilisations. Furthermore, European gasoline-oriented configurations are challenged by falling demand as they increasingly rely on long-haul export markets. Fuel combustion, power, and hydrogen (SMR) are major sources of refinery emissions, and carbon intensity increases with refinery complexity. European refineries are typically less carbon intensive than those in North America and Asia, but decarbonising refinery operations and consuming less energy is a significant cost reduction opportunity for Europeans (as at the end of the day, it means consuming less methane).

However, since February 2022, the Ukraine war has been a game changer, and refining margins have set an all-time record, confirming refining is still a strategic asset.

According to data analysts, refining accounts for about 3% of global energy sector carbon emissions. Breaking this 3% down into regions, Asia accounts for 43% of global refinery emissions, with 35% of global refinery capacity, North America for 24%, Europe for 15%, and the Middle East for 8%. Hence, there is a significant opportunity to lower the carbon intensity of refinery products made in Asia.

Moreover, the EU ETS scheme adds to the profitability challenge, as the cost of carbon is relevant to European refineries since most are complex, although deep conversion refineries with higher margins should be better able to absorb the cost of carbon emissions. In other words, the energy transition is challenging the refining industry as traditional success factors such as flexibility, scale, complexity, and location are necessary but no longer sufficient.

In July 2021, the EU announced Fit for 55, with the goal to reduce net GHG emissions in 2030 by at least 55% compared with 1990 levels. Fit for 55 is intended to deliver the Green Deal and achieve the emissions reduction target while creating new social and economic opportunities. As part of this package, a carbon border adjustment mechanism (CBAM) will be gradually introduced for certain imports from countries outside the EU.

CBAM should limit carbon leakage by equalising the carbon price between domestic and foreign products. From 2026, the Commission is planning to phase out free allocations to the sectors concerned under the ETS to ensure a level playing field between EU producers and third-country importers. Until free allocations end in 2035, CBAM will only apply to the proportion of emissions that do not receive free allowances under the EU ETS. CBAM will initially cover five industrial areas: iron and steel, cement, fertilisers, aluminium and electricity generation (power), but does not include the refining industry.

However, European refining can make a significant contribution to the net-zero carbon economy in 2050 by moving into the production of low- and zero-carbon products. This will require huge investment and carbon leakage protection throughout the transition: technology neutrality and a rational approach to the cost of carbon are necessary, otherwise the relocation of EU refining capacity to unregulated regions will have a negative effect on climate and geopolitics.

As a result, the refinery sector should be considered a good candidate for coverage of CBAM, considering its structure and exposure to carbon leakage. Furthermore, the EU is a net importer of jet fuel and diesel, two of the sector’s products that could, in priority, be good candidates for early inclusion in a CBAM regime, promoting the adoption of the bio-component, HVO, and SAF.

This short article originally appeared in the 2022 ERTC Newspapers, which you can view HERE