Air Quality Strategy Review

Defra

Air Quality Strategy Review

Competition Effects of Measures in the Air Quality Strategy Review

Draft Report

October 2005

Entec UK Limited

Report for

Emma Powell

Economic Advisor

Environment Protection Economics

Defra

5/F4 Ashdown House

123 Victoria Street

London SW1E 6DE

Main Contributors

Ben Grebot

Caspar Corden

Christoph Hugi

Michael Sorensen

Issued by

…………………………………………………………

Caspar Corden

Approved by

…………………………………………………………

Alistair Ritchie

Entec UK Limited

17 Angel Gate

City Road

London

EC1V 2SH

England

Tel: +44 (0) 207 843 1400

Fax: +44 (0) 207 843 1410

16874CA001

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Defra

Air Quality Strategy Review

Competition Effects of Measures in the Air Quality Strategy Review

Draft Report

October 2005

Entec UK Limited

Disclaimer

This report has been prepared in a working draft form and has not been finalised or formally reviewed. As such it should be taken as an indication only of the material and conclusions that will form the final report. Any calculations or findings presented here may be changed or altered and should not be taken to reflect Entec’s opinions or conclusions.

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Contents

1.Introduction

1.1Review of the Air Quality Strategy

1.2Approach to Competition Assessment

2.Summary of Competition Effects

2.1Possible Impacts upon Competition

2.2Implications for the Air Quality Strategy Review

Appendix A Detailed Analysis

Measures 1 & 2: Euro standards V & VI for new LDVs (2010) & HDVs (2013)A3

Measure 3B: Programme of incentives for early uptake of Euro V & VI standards A3

Measure 8: Retrofit of DPFs on HDVs & captive fleetsA3

Measure 9: Domestic combustion (fuel switching)A3

Measure 12: Small combustion plants (20-50 MWth)A3

Measure 14: Shipping measure through IMOA3

Measure 22: All road user charging schemeA3

Measure 23: Combined measure 3B plus 21 (updated LEV scenario – replacement of petrol & diesel cars) A3

Table A.1Summary of Competition Filter QuestionsA

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1.Introduction

1.1Review of the Air Quality Strategy

Defra is currently undertaking a review of the Air Quality Strategy (AQSR). This has evaluated a number of possible measures for achieving further improvements in air quality in terms of their relative costs and benefits. Based on this evaluation, as well as other considerations, Defra is developing a Regulatory Impact Assessment to accompany a consultation on the Review.

Under a contact with Defra for the preparation of regulatory environmental impact assessments in relation to proposals for air quality legislation, Entec has produced this report to provide input to the above Review in relation to the Competition Assessment aspects of the RIA.

The possible measures under the AQSR that are covered by this report include:

•Uptake of new ‘Euro’ standards for vehicles, in particular to control emissions of PM and NOx in light and heavy duty vehicles, with a programme of incentives for early uptake (measures 1, 2 and 3B).

•Requirements for retrofitting of diesel particulate filters on heavy duty vehicles, buses and coaches (measure 8).

•Requiring a 100% switch in domestic combustion from coal to natural gas where available and oil where not for Northern Ireland only (measure 9).

•Implementation of emission limits for NOx and SO2 from small combustion installations after 2013, through a new directive expected to be introduced under the Thematic Strategy (measure 12).

•Use of 1% sulphur fuel in the largest ships from 2010 and reducing NOx emissions from new ships (measure 14).

•A road user charging scheme introduced from 2015 (measure 22).

•NOx reduction through uptake of low emission vehicles (measure 21[1]).

1.2Approach to Competition Assessment

An approach to undertaking such Competition Assessments is set out by the Cabinet Office[2], referring in turn to more detailed Guidelines for competition assessment set out by the Office of Fair Trading[3]. The approach to undertaking the assessment has been agreed with Defra.

Given the tight timescales available for undertaking the work, the assessment has been undertaken through applying the ‘competition filter’ set out in the OFT’s Guidelines and a more detailed investigation into key specific issues where any competition effects may be likely to arise. However, it has not been practicable to undertake a full, detailed competition assessment across all affected markets. Therefore, the likely competition impacts have been assessed in mainly qualitative terms based on a quantitative and qualitative understanding of the affected markets, the current market structure and nature of competition and the likely positive and negative impacts of the possible policy measures.

Where applicable, the more detailed aspects of the competition assessment have been undertaken through:

•Developing an understanding of the markets involved based on a literature review;

•Undertaking a screening of potential effects upon competition based on an internal brainstorming session;

•Incorporating information from relevant literature sources in order to better characterise the potential effects on competition based on previous analyses;and,

•Identification of potential means of reducing any negative effects on competition.

This more detailed analysis, where deemed appropriate, has been based on the criteria set out in section 5.39 of the OFT’s Guidelines, namely whether the measures will alter current market structure; increase barriers to entry or exit; reduce the strength of competition; reduce differentiation and customer choice; or restrict innovation.

Section 2of this report provides a summary of the main conclusions of the work. Appendix A includes details of the more detailed analysis undertaken for each measure.

Given that a full, detailed competition assessment has not been possible within the resources and timescales of this study, there may be some potential adverse effects upon competition that have not been identified or characterised. As such, the findings of this report should be considered as a preliminary assessment of competition effects of measures in the AQSR.

2.Summary of Competition Effects

2.1Possible Impacts upon Competition

Only one measure (number 9[4]) has been identified through the ‘competition filter’ as requiring a more detailed assessment. However, the filter has identified a number of other areas where competition may be affected and these have been explored in a little more detail.

Measures 1 & 2: New ‘Euro’ standards for light and heavy duty vehicles

The main markets affected would be vehicle & engine manufacturers/suppliers; manufacturers & suppliers of exhaust after treatment systems; and owners/operators of vehicles. These measures would not be expected to alter market structures in general, although if the standards necessitate particular technologies, those producing alternative abatement techniques may be excluded from the market. The strength of competition amongst manufacturers/suppliers could potentially be affected, depending upon the technologies required. No significant effects on innovation would be expected; indeed innovation by UK and EU firms may be stimulated by the requirements.

Whilst the burden upon smaller manufacturers may be proportionately larger, it is envisaged that the EU vehicle type approval framework directive could be employed, in order to limit the effects of measures on manufacturers whose world-wide production is less than 500 units per annum.

Measure 3B: Incentives for early uptake of ‘Euro’ standards

The key markets affected would be essentially the same as those for implementation of the standards under measures 1 and 2. Such incentives would be unlikely to alter the current vehicle and engine manufacture/supply market structure given that all suppliers would be subject to the same requirements. Whilst such early incentives could create disparities between the UK and other countries, it is understood that German, Austrian and Dutch governments have already tabled plans for such fiscal incentives, with France and Sweden having expressed an interest.

Manufacturers may also have to produce a greater range of models to satisfy both markets with and without incentives for vehicles meeting the voluntary standards (with potentially significant costs and higher unit costs due to smaller production runs). It may also prove difficult to pass on cost increases to (non-EU) markets that are not subject to the same requirements.

In terms of suppliers of abatement equipment, firms that manufacture the required technologies will have a competitive advantage over those that do not and could gain a greater market share potentially reducing competition.

Firms owning/operating vehicles that are able to take advantage of these incentives (e.g. in fleet renewal) may gain an advantage over those that are required to purchase vehicles after the incentivisation period has ended (this might also mean slightly higher start-up costs for new-entrants to the market, in the short-term at least).

Measure 8: Diesel particulate filters for heavy duty vehicles, buses, etc.

This is likely to be accomplished through incentive schemes; it will mainly affect suppliers of abatement equipment and owners/operators of vehicles. The measure could potentially exclude suppliers of alternative abatement technologies from the market. It should not reduce the strength of competition between vehicle operators/owners, provided that it is voluntary and not mandatory.

Measure 9: Domestic combustion (fuel switching)

A 100% switch in domestic combustion from coal to gas (or oil where applicable) would change the structure of the domestic fuel supply market, forcing suppliers of coal and/or oil out of the market. However, this should be seen in the context of a ‘business as usual’ (BAU) increase in the proportion of gas in the UK’s domestic combustion fuel mix, to a point where gas significantly dominates the fuel mix under BAU trends.Customer choice and differentiation would be affected where usage of coal (or oil) is no longer allowable due to this policy, though this represents a small and declining part of the overall market.

Measure 12: Small combustion plants

This measure would affect a range of markets and installations (such as power generation, autogenerators, various industrial sources, public services and others),so it has not been possible to define individual markets in any detail. The measure (introduced through a future directive) should not affect market structures significantly since all EU-based firms would be equally affected - though non-EU firms would not be affected. Those installations below the minimum threshold for inclusion (<20MW) may gain an advantage over those above the threshold.

Measure 14: Shipping measure to be introduced through the IMO

This measure would affect petroleum refineries producing fuel for shipping, bunker suppliers, shipping operators, as well as ship and abatement technology manufacturers/suppliers. However, it would affect all ships globally that are above the specified size threshold. It would not be expected to affect market structure significantly, nor create significant barriers to entering/exiting the market (though new firms may face higher initial capital outlay).

Measure 22: Road user charging scheme

This would affect owners and operators of vehicles. This could potentially affect market structure, through imposing costs on lower-margin businesses that may be less able to bear increases (assuming there is an associated increase in the overall cost of road travel/distribution); this could also, therefore, reduce the strength of competition within a market. There may also be a potential concern for treatment of non-UK vehicles on UK roads: competition may be affected if all vehicles are not treated equally.

Measure 23: Low emission vehicles

In addition to incentives for early uptake of ‘Euro’ standards (measure 3B), this measure would incentivise replacement of certain petrol and diesel cars with low emission vehicles. It would affect manufacturers/suppliers of vehicles/engines, as well as vehicle owners and operators.

In the short-term, this measure may favour the small number of companies currently supplying LEVs to the UK market (though several other manufacturers are currently developing their own models). In the longer term however, the number of firms manufacturing and supplying LEVs should increase thus increasing the strength of competition, improving customer choice and encouraging innovation.

2.2Implications for the Air Quality Strategy Review

Of the potentially adverse effects upon competition identified, those that appear to be potentially most significant are:

1. An increased reduction in the market for coal and oil used for domestic combustion, though this should be seen in the context of the ongoing trend towards gas in this market.The timing of requirements under this measure could take such existing trends into account.
2. Potential for additional costs for UK suppliers related to ‘Euro’ standards, particularly in relation to supplying more than one market simultaneously (either those with and without incentives or those not subject to Euro standards, such as those outside the EU).The potential for harmonisation of requirements with other countries could, therefore, be examined in order to reduce this type of impact.
3. Suppliers of alternative abatement equipment to that which may be required under the measures (e.g. diesel particulate filters) could potentially be affected in terms of their ability to compete in markets where particular technologies are specified/required.This could potentially be avoided by providing equivalent incentives for measures that can achieve an equivalent level of environmental benefit.
4. Non-EU firms may gain a competitive advantage through additional costs imposed upon EU firms operating small combustion installations. The requirements of the possible Directive are not expected to be introduced before around 2013, allowing time to consider possible alignment with non-EU trading blocks.
5. Potential for differential impacts between UK and non-UK registered vehicles in the event of a road-user charging scheme, as well as for reduced ability of lower-margin firms to compete in the event of increased costs. Possible issues to consider are techniques for charging non-UK registered vehicles whilst in the UK, as well as structuring the charging system so as not to impose excessive burdens upon businesses likely to be most adversely affected (and also to avoid social exclusion impacts).
6. Existing suppliers of Low Emission Vehicles (LEVs) may gain a competitive advantage over other firms in the near-term, though many other firms are currently developing their own vehicles. Given the likely timing over which measures will be introduced, this is not expected to pose significant concerns as regards competition.

It is important to note that some of the measures proposed under the AQSR, and the resulting implications for competition, may actually occur independently to the AQSR. For example, the proposed Euro standards (excluding any national incentive schemes) will be implemented at an EU level (in the form of a directive) regardless of whether the AQSR and any of the proposed measures are taken forward. Other measures that may also progress independently of the AQSR include measures 12 (reduced NO2 and SO2 emissions from Small Combustion Plants) and 14 (lower fuel sulphur content and reduced NOx emissions from new ships) which are likely to be implemented at an EU (directive) and global (via the IMO) level, respectively.

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Appendix A
Detailed Analysis

30 Pages

The following sections provide details of the analysis undertaken for each of the measures considered within this project. The analysis has been undertaken in accordance with the Office of Fair Trading Guidelines for Competition Assessment, which are referred to in the Cabinet Office Regulatory Impact Assessment Guidance.

For each measure, the following information has been provided:

•A brief summary of the requirements of the measure, as currently foreseen;

•Information on the markets affected and current market structures, forming the basis for the Competition Assessment;

•Details of the approach to and results of undertaking the ‘competition filter’, responding to the questions outlined in Table A.1;

•A qualitative description of the expected impacts upon competition of the measure (in accordance with key questions set out in the Office of Fair Trading guidelines). Where the competition filter has indicated a higher potential for significant detrimental effects on competition, this qualitative assessment has been undertaken in greater detail.

Given the timescales available for undertaking this work, a full and detailed assessment across all affected markets has not been undertaken. Competition impacts have been assessed in mainly qualitative terms based on a qualitative and quantitative understanding of the affected markets, current market structure and nature of competition.

Table A.1Summary of Competition Filter Questions

Question / Answer
Yes/No
Q1: In the market(s) affected by the new regulation, does any firm have more than 10% market share?
Q2: In the market(s) affected by the new regulation, does any firm have more than 20% market share?
Q3: In the market(s) affected by the new regulation, do the largest three firms together have at least 50% market share?
Q4: Would the costs of the regulation affect some firms substantially more than others?
Q5: Is the regulation likely to affect the market structure, changing the number or size of firms?
Q6: Would the regulation lead to higher set-up costs for new or potential firms that existing firms do not have to meet?
Q7: Would the regulation lead to higher ongoing costs for new or potential firms that existing firms do not have to meet?
Q8: Is the sector characterised by rapid technological change?
Q9: Would the regulation restrict the ability of firms to choose the price, quality, range or location of their products?

Measures 1 & 2: Euro standards V & VI for new LDVs (2010) & HDVs (2013)

Summary of Requirements

The European Commission is currently consulting on the next round of European vehicle standards for LDVs (Euro V) and HDVs (Euro VI). The proposed measures are high and low scenarios of what the new Euro standards are anticipated to require. Measure 1 (low scenario) involves a 20% reduction in NOx emissions from all diesel LDVs, a 50% NOx reduction from diesel HDVs and Diesel Particulate Filters (DPFs) on diesel LDVs. These would be introduced in 2010 and 2013 for LDVs and HDVs, respectively. Measure 2 (high scenario) involves a 50% reduction in NOx for petrol LDVs from 2010, a 40% reduction in NOx from all diesel LDVs from 2010 and a 68% reduction from all LDVs from 2015, a 75% reduction in NOx from HDVs and DPFs on all diesel vehicles (LDVs and HDVs). These would be introduced in 2010 for LDVs (and 2015 for tighter NOx limits) and 2013 for HDVs. The durability of vehicles for both the low and high scenarios is 100,000 km.