Trends in International Shipping

One of the most significant challenges facing the international maritime community in the coming months and years will concern its ability to respond to reducing greenhouse gas emissions in line with regulatory targets. The previous emphasis on vessel pollution, in the form of sulfur regulations (ie, the Amendments to MARPOL Annex VI) and water ballast treatment (ie, Regulation D-3 of the Ballast Water Management Convention), is significantly enhanced by a determined drive to reduce vessel emissions.

In connection with this focus on decarbonisation, a significant milestone occurred on 1 January 2024 with the inclusion of shipping into the EU’s Emissions Trading System (ETS). Initially adopted in Kyoto in 2010, the ETS was first implemented in the power and aviation sectors. As a preliminary step, following the 2015 Paris Agreement, all ship-owning companies with vessels travelling to the EU became obliged to monitor the emissions of their vessels under the EU Monitoring, Reporting and Verification Regulations (MRV). Subsequently, in 2020 the EU Parliament approved the inclusion of the maritime sector in the ETS, which became applicable to all vessels entering, leaving or travelling within the EU from 1 January 2024. 

The relevant legislation (ie, Directive (EU) 2023/959 of the European Parliament and of the Council of 10 May 2023, and Directive 2003/87/EC of the European Parliament and of the Council of 13 October 2003) provides that for voyages to or from an EU port (or within the EU), ship-owning companies must measure the carbon emissions of their vessels over the calendar year and prepare a report of those emissions. The report must be verified by an external verifier and submitted to the relevant EU authority by March 31st of the following year. For each ton of carbon emitted, the ship-owning company will have to purchase and surrender one “EU Allowance” (or EUA) by September 30th of that same year. This regime is being phased in over a three-year period. 

So far, the implementation of the ETS has not been smooth. Ship-owning companies have reported difficulties in opening accounts into which EUAs can be deposited, and there is some confusion regarding the details of how the ETS will be applied. Specifically, there is little guidance on penalties that national governments will impose for non-compliance. Moreover, there is an understandable tension between ship-owners and charterers as to which party should bear the financial burden of these additional costs. Not surprisingly, many charterers are strongly resisting pressure from ship-owners to pass the cost down to them through contractual provisions inserted into the charterparties. As is so often the case, the financial impact of new regulation hits the smaller players fastest and hardest. 

From the UK’s point of view specifically, the UK ETS replaced the UK’s participation in the EU ETS. Most features of the UK ETS are similar to the EU ETS, and apply primarily to energy-intensive industries. So far, the UK ETS does not cover international maritime transport, but plans to encompass domestic maritime transport from 2026 onwards (see here).

One of the hoped-for effects of the implementation of the EU ETS regime is a shift to alternative greener fuels such as liquified natural gas, liquified biogas, hydrogen and ammonia. However, it is difficult to predict the extent to which the maritime sector is ready to adopt alternative fuels, partly because of the costs of converting existing ships to accommodate alternative fuels and partly because the supply of such fuels is insufficient to meet the demands of the large and energy-intensive maritime industry. Although there are encouraging signs of adoption of such technologies in newbuildings, it will take many years to achieve a significant shift to alternative fuels. Accordingly, neither the EU nor the UK have shown signs of being ready to pass legislation to further incentivise and accelerate the move towards greener fuels. That said, the recent proposal of the Norwegian Maritime Authority (which published a consultation document that was submitted to the Norwegian Ministry of Climate and Environment on 2 January 2023 – see here) to ban vessels running on diesel fuels from entering Norwegian waters may be an indication of future legislative initiatives.

The implementation of the EU ETS, though by far the most far-reaching EU initiative, follows on the introduction of amendments to the International Convention for the Prevention of Pollution from Ships (MARPOL) Annex VI, which entered into force on 1 November 2022. From 1 January 2023, it has been mandatory for all ships to calculate their attained Energy Efficiency Existing Ship Index (EEXI) (Regulation 25, Annex VI, MARPOL) to measure their energy efficiency and to initiate the collection of data for the reporting of their annual operational carbon intensity indicator (CII) and CII rating. These technical and operational amendments are designed to promote improvement in the ship’s energy efficiency in the short term, and to thereby reduce their greenhouse gas emissions.

EEXI measures a ship’s energy efficiency per mile of ship capacity transport work, based primarily on considerations such as:

• the installed power of the vessel’s engines;
• consumption;
• capacity (deadweight); and
• speed.

(See Regulation 23, Annex VI, MARPOL.)

The calculated EEXI must be below its required EEXI to ensure it meets a minimum energy efficiency standard and is included as part of its International Air Pollution Prevention Certificate. 

CII is a measure of operational efficiency measured as an annual average of CO2 emissions per mile of ship capacity transport work (Regulation 28, Annex VI, MARPOL). Vessels must attain an annual rating of at least “C” on a scale between A and E. Vessels rated below “C” will need to implement a corrective action plan (Regulation 28, Annex VI, MARPOL). CII can be improved by measures such as:

• reducing sailing speed;
• technological innovation;
• optimising sailing routes; and
• other similar measures.

Through a mechanism of reducing the annual thresholds, the object is to drive continuous improvement in operational efficiency. 

Like the EU ETS, CII implementation has not been all smooth sailing. While it is relatively easy for time charterers to include clauses in their charters entitling them to implement necessary measures to comply with CII (such as slow steaming), this is generally not a realistic option for bareboat charterers, and there seems to be no consensus on how to deal with this aspect. In addition, since CII is assessed at annual intervals, it may be difficult for ship-owners to recover their costs of implementing corrective measures from erstwhile charterers. Finally, national administrations have not signalled their intentions regarding enforcement and, as with the EU ETS, it remains unclear what sanctions will be imposed for non-compliance with CII regulations. 

Enforcement of climate goals is not only the province of national or international regulatory bodies: the Poseidon Principles, launched in June 2019, are a global framework for assessing and disclosing the climate alignment of financial institutions’ shipping portfolios developed by the banking industry, with the support of the Global Maritime Forum. In 2022, these goals were aligned with the temperature goals of the Paris Agreement. Today, a significant proportion of the international ship finance community has already signed up to the Poseidon Principles, and this trend appears to be increasing. The intention is that, through the application of these principles, lending will be directed away from polluting ships and towards greener tonnage. 

Lenders aim to measure the level of decarbonisation in their portfolios, using the data collection systems and methods provided to them by the International Maritime Organization (IMO). This requires borrowers to provide data on their vessels, which in turn requires contractual provisions in loan documents obliging ship-owners to provide such information to the financial institutions or the IMO. Finally, lenders are required to report annually on the overall climate alignment of their shipping portfolio.

Similar measures have been adopted in the marine insurance industry with the Poseidon Principles for Marine Insurance, launched on 15 December 2021.

Other Key Developments

Up to this point, reduction of GHG has been focused on (where the direction of travel towards heightened scrutiny and regulation is clear). However, also important for shipping in 2023 was the entry into force of the International Convention for the Safe and Environmentally Sound Recycling of Ships (HKC). Adopted in Hong Kong in May 2009, the aim of the HKC was to ensure that ships recycled at the end of their operational lives do not pose unnecessary risks to human health and safety, or to the environment. However, the HKC could only enter into force after ratification by at least 15 states representing at least 40% of the world’s merchant shipping by gross tonnage and availability of ship recycling capacity, constituting at least 3% of the gross tonnage of the combined merchant shipping of the participating states. Following ratification of the HKC by Bangladesh and Liberia, these requirements were finally met; and after more than a decade since its adoption, the HKC will finally enter into force on 26 June 2025.

The HKC applies to ships with a gross tonnage of at least 500 GT, requiring each such ship to maintain on board a ship-specific Inventory of Hazardous Material (Article 3, 8, Regulation 5, Part A, Chapter 2, HKC). This inventory must be prepared, verified, and regularly updated in accordance with the guidelines set out by the IMO (Regulation 5, Part A, Chapter 2, HKC). After an initial verification survey, the ship must undergo additional surveys throughout its operational life, including a final survey before undergoing recycling (Regulation 10.1, Part C, Chapter 2, HKC). Compliance with this requirement for ships in service is expected by 26 June 2030, or earlier if the ship is scheduled for recycling before that date.

Ship recycling facilities must obtain authorisation from the competent authority of the member state. Each facility is obliged to formulate a Ship Recycling Facility Plan, covering:

• worker safety and training;
• protection of human health and the environment;
• roles and responsibilities of personnel;
• emergency preparedness and response; and
• monitoring, reporting and record-keeping systems.

(See Regulation 18, Chapter 3, Hong Kong Convention.)

Before commencing the recycling process, the recycling plant must prepare a Ship Recycling Plan tailored to each specific ship that it intends to admit for recycling (Regulation 8, Part B, Chapter 2, HKC).

There is, however, an element of regulatory mismatch between the HKC and other legislation, such as:

• the UN Basel Convention on the Control of Transboundary Movements of Hazardous Wastes and their Disposal, which came into force in 1992;
• the EU Waste Shipment Regulation; and
• the EU Ship Recycling Regulation (2013) (and the UK Ship Recycling Regulation 2021 which gives effect to it).

Divergences in shipyard certification, for example, may cause compliance uncertainties. However, increasing alignment can be expected over time. 

Overall, the increasing regulatory pressure to reduce the harmful environmental impact of ships and shipping must be applauded. However, in view of the scale of change and the deadlines imposed for compliance, many ship-owners and charterers will find it challenging, particularly in the short term, to meet their enhanced environmental responsibilities.

Aside from the regulatory matters addressed above, there has also been legislative development with the potential to have a significant direct and indirect positive effect on the maritime industry by reducing transaction costs and increasing efficiency and security in documentation. Such development is the UK Electronic Trade Documents Act 2023 (the “ETDA 2023”) which took effect in September 2023 and promotes the utilisation of electronic trade documents, including electronic bills of lading. It is fair to say that, while the benefits of electronic bills of lading have been much talked about for several decades now, their application in practice has been fairly limited across the industry. This has been largely owing to the absence of a legislative landscape that underpins the recognition of electronic versions of bills of lading.

The ETDA 2023 grants electronic bills of lading (as well as certain other specified trade documents) the same legal recognition and functionality as their paper counterparts. The act is significant because English law is commonly used in the maritime sector, and it also provides a basis to encourage the adoption of broader acceptance of digital trade documentation in a number of other key finance and trading countries. This push forward in the utilisation of electronic documents is gaining momentum globally, with a number of countries expected to put their own legislative framework in place within the next 12 to 24 months, and with shipping and trade bodies also now encouraging wider adoption of electronic trade documents.

There is no doubt that the industry is going through a period of transition on a number of fronts, and the practical effects of the various initiatives will be more readily discernible in the near future. As such, it is a case of “watch this space”.