Airline Carbon Costs Take Off As EU Emissions Regulations Reach For The Skies

Airlines worldwide are bracing themselves for the start, in 2012, of a new phase of Europe's greenhouse gas (GHG) emissions trading scheme (the EU ETS). Besides curbing the industry's projected growth in emissions, the scheme will likely increase costs. Furthermore, in Standard & Poor's Ratings Services opinion, these costs could, if not passed through to passengers or mitigated in other ways, impact the carriers' credit quality over time.

Emissions from airlines have been growing faster than those of any other industry, rising 98% between 1990 and 2006. What's more, they show no signs of abating: The United Nations Framework Convention on Climate Change (UNFCCC) predicts future emissions from airlines worldwide will grow by 63% by 2020 and by 88% by 2050--representing an increase of 290% and 667%, respectively, compared with 2006 levels.

The International Air Transport Association (IATA), which represents major airlines worldwide, says it expects airline emissions to grow at a rate faster than the industry can improve fuel efficiency (estimated at about 2% per year in 2004), which means that airlines operating within European airspace will have to bear increasing financial liabilities associated with their carbon emissions. We estimate that in 2012-2013 alone--the first year of trading for airlines under the EU ETS--the industry will likely incur an additional cost of approximately €1.125 billion, based on the current carbon price of about €15 per tonne of carbon dioxide (€/tCO2).

This additional cost burden on airlines is, at least initially, marginal in our view compared with existing fuelexpenses and aircraft lease payments or depreciation charges. Nevertheless, it will add further cost pressure to a cyclical, capital-intensive, and highly competitive industry already subject to volatile fuel prices, and may further differentiate aircraft operators. Moreover, we believe that EU-based airlines may be more severely affected than non-EU based carriers, which could create a competitive mismatch and introduce the risk of carbon leakage (that is,the transfer of airline activities to non-EU operators or to routes not covered by the EU ETS).