CHICAGO--(BUSINESS WIRE)--Fitch expects today's ruling by the European Court of Justice (ECJ) on the legality of the European Union carbon emissions trading scheme (ETS) to pave the way for a broadening international trade dispute over access to the EU aviation market.
Airlines and governments from outside the EU will likely step up opposition to new taxes on carbon emissions under the ETS, which is scheduled to take effect at the beginning of 2012. The U.S. State Department and other non-EU governments (including China and India) have already expressed stiff opposition to ETS taxes on airlines and a perceived unilateral effort to restrict market access for non-EU carriers.
We believe threats of trade retaliation over the EU's cap and trade system will pose growing threats to aviation market access in both developed and emerging markets next year. The U.S. House of Representatives has already passed a bill prohibiting compliance with the ETS by U.S. airlines, and diplomatic efforts to roll back the implementation of the scheme will likely intensify in the new year.
Retaliation may be largely rhetorical in the early stages, but an absence of progress next year may trigger protectionist responses, especially from emerging market governments. Moves to restrict market access through slot allocations and route authorities could have a material economic impact during a precarious time for the global economy, when airline revenue growth is coming under renewed pressure.
U.S. airlines have maintained in their case before the ECJ that the EU emissions policy subverts multilateral negotiations on airline emission guidelines being negotiated under the International Civil Aviation Organization (ICAO). In addition, industry trade representatives see the imposition of carbon taxes on airline emissions outside EU airspace as discriminatory, raising operating costs materially on all flights arriving at or departing from EU airports.
The ECJ ruling comes at a difficult time for global air carriers already facing high jet fuel costs and a softening outlook on air travel demand. The Association of European Airlines (AEA) warned earlier this month that it expects member airlines to report large operating losses in 2012 as European macroeconomic weakness erodes air travel demand and trans-Atlantic markets remain under stress due to over-capacity.
Under the EU's aviation cap and trade plan, all airlines will be required to obtain permits covering carbon emissions from aircraft on routes either originating or terminating at EU airports. Emissions-allowance purchase requirements will be determined by the volume of carbon dioxide emitted by aircraft operated by both EU and non-EU carriers. The European Commission indicated in September that it will offer 85% of emissions allowances free in 2012, but global airlines nevertheless expect to face rising permit-related costs over the next decade.
We agree with the industry's assessment that ETS carbon permit costs will effectively serve as a tax on the world's airlines, raising operating costs on all European flights at a time when emissions charges are unlikely to be passed on to customers in the form of higher fares.
European airlines have emphasized the need to include foreign carriers in the emissions regime in order to ensure that a level playing field exists on international routes that either originate or terminate at EU airports. The AEA has projected emissions charges to be paid by European carriers at over 17 billion euros between now and the end of the decade.
U.S. airlines most vulnerable to margin pressure linked to the 2012 ETS roll-out include United Continental (UAL), Delta and AMR Corp.'s American Airlines, all of which derive 20% or more of global revenues from trans-Atlantic markets.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.