(The author is a Reuters market analyst. The views expressed are his own.)
By Gerard Wynn
LONDON, Jan 22 (Reuters) - The European Union has failed to recruit an independent monitor to oversee the auction of carbon emissions permits, a concern in a market that suffered a 5 billion euro ($6.7 billion) fraud in 2009 and after the cancelling of an auction last week.
It is a mystery why no single applicant registered interest in a tender last year for a three-year contract worth 25 million euros ($33 million).
It is tempting to view the failure as evidence of worsening apathy in European emissions trading as prices hit record lows and some senior traders leave the market. But the monitor's job and income would not be affected by the carbon market's shortcomings.
Potential bidders may be concerned they could be tainted by being associated with a market that has had a history of scandals including value-added tax (VAT) fraud, a phishing scandal and the re-sale of used emissions permits.
The contract winner would be responsible for monitoring auctioning of permits across the entire European carbon market, which covers some 31 countries including the EU's 27 member states.
The contract terms do not appear particularly onerous, requiring no more than 20 experts with a certain number of years of experience in monitoring capital markets, understanding market abuse and game theory and managing cross-border schemes.
"Candidates must submit evidence of their ability to carry out the auction monitor's tasks with impartiality and objectivity ... delivering services regarding regulated markets, clearing systems or settlement systems," says the tender document, "Joint procurement of an auction monitor".
The EU emissions trading scheme (ETS) limits carbon dioxide emissions from more than 11,000 factories and power plants by allocating a quota of tradable permits.
Polluters previously got most allowances for free, but the ETS is starting to shift to more auctioning of permits, and free allocation is to be phased out altogether by 2027.
This year auctioning will grow to more than 40 percent of the quota from 4 percent last year. At present prices, that will raise about 4.1 billion euros for national treasuries.
The monitor's job is to ensure the smooth operation of auctions, including preventing market abuse.
"An impartial auction monitor should assess the entire auction process, including the auctions themselves and the implementation of the rules applicable to these," the auctioning regulation states.
It rules out the holding of auctions without a monitor in place, but makes an exception if the EU has failed to recruit a monitor before a final deadline of July this year.
"The foregoing (exception) shall apply where the appointment of the auction monitor has been delayed until no later than 1 January 2013, or until no later than 1 July 2013 where the first procurement procedure does not result in an appointment of the auction monitor and the conduct of a second procurement procedure is necessary."
The European Commission appears to be doing its best, including holding presentations to drum up interest.
In 2013 some 819 million tonnes will be auctioned on a common EU platform and individual German and British platforms, out of a total annual allocation of around 2 billion tonnes.
The British auction is held fortnightly on Wednesday; the EU auction weekly each Monday, Tuesday and Thursday; and German auctions are weekly each Friday.
As demand and prices for permits have fallen, they have begun to affect the auctioning process. Last Friday's German auction was the first use of a cancellation procedure that kicked in after prices failed to meet a minimum reserve.
In line with emissions trading regulations, the EEX exchange calculates a minimum auction reserve price, based on the secondary market price, with the aim of heading off market abuse. The regulation is deliberately vague on the level of the minimum reserve price to avoid gaming.
"Where the auction clearing price is significantly under the price on the secondary market prevailing during and immediately before the bidding window when taking into account the short term volatility of the price of allowances over a defined period preceding the auction, the auction platform shall cancel the auction," the regulation's Article 7 states.
An independent monitor would have been expected to scrutinise last Friday's cancellation, given its role to identify and prevent gaming of the market.
It would also advise member states on the selection of emissions exchanges for auction platforms, but three out of four transitional platforms are already up and running.
"The appointment of the auctioneers and the auction monitor is of crucial importance for the proper conduct of the auctions, and it would generally not be possible to conduct auctions without the conclusion and entry into force of the arrangements between the auctioneers and the auction monitor," the regulation says.
The procurement tender for a private sector monitor last year passed without any interest registered, according to the Tenders Electronic Daily of the Official Journal of the European Union.
"No applications were received. As a result, the Commission decided to abandon the procedure," its reported in October.
"The Commission and the member states are considering now the next steps, including the appropriate procedure for relaunching of the procurement, which might be by way of open procedure, negotiated procedure, restricted procedure or competitive dialogue." ($1 = 0.7510 euros) (editing by Jane Baird)